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Sustainable plans and debt

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Author Info
V.V. Chari
Patrick J. Kehoe

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Abstract

This paper presents a simple general equilibrium model of optimal taxation similar to that of Lucas and Stokey (1983), except that we let the government default on its debt. As a benchmark, we consider Ramsey equilibria in which the government can precommit its policies at the beginning of time. We then consider sustainable equilibria in which both government and private agent decision rules are required to be sequentially rational. We concentrate on trigger mechanisms which specify reversion to the finite horizon equilibrium after deviations by the government. The main result is that no Ramsey equilibrium with positive debt can be supported by such trigger mechanisms.

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Paper provided by Federal Reserve Bank of Minneapolis in its series Staff Report with number 125.

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Date of creation: 1989
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Publication status: Published in Journal of Economic Theory (Vol. 61, n.2, December 1993, pp. 230-261)
Handle: RePEc:fip:fedmsr:125

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Keywords: Economic policy ; Debt;

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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Barro, Robert J, 1979. "On the Determination of the Public Debt," Journal of Political Economy, University of Chicago Press, vol. 87(5), pages 940-71, October. [Downloadable!] (restricted)
  2. Persson, Mats & Persson, Torsten & Svensson, Lars E O, 1987. "Time Consistency of Fiscal and Monetary Policy," Econometrica, Econometric Society, vol. 55(6), pages 1419-31, November. [Downloadable!] (restricted)
  3. Robert J. Barro & David B. Gordon, 1984. "Rules, Discretion and Reputation in a Model of Monetary Policy," NBER Working Papers 1079, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  4. Grossman, Herschel I & Van Huyck, John B, 1988. "Sovereign Debt as a Contingent Claim: Excusable Default, Repudiation, and Reputation," American Economic Review, American Economic Association, vol. 78(5), pages 1088-97, December. [Downloadable!] (restricted)
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  5. Chari, V V & Kehoe, Patrick J, 1990. "Sustainable Plans," Journal of Political Economy, University of Chicago Press, vol. 98(4), pages 783-802, August. [Downloadable!] (restricted)
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  6. Bulow, Jeremy & Rogoff, Kenneth, 1989. "Sovereign Debt: Is to Forgive to Forget?," American Economic Review, American Economic Association, vol. 79(1), pages 43-50, March. [Downloadable!] (restricted)
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  7. Green, Edward J & Porter, Robert H, 1984. "Noncooperative Collusion under Imperfect Price Information," Econometrica, Econometric Society, vol. 52(1), pages 87-100, January. [Downloadable!] (restricted)
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  8. Calvo, Guillermo A, 1978. "On the Time Consistency of Optimal Policy in a Monetary Economy," Econometrica, Econometric Society, vol. 46(6), pages 1411-28, November. [Downloadable!] (restricted)
  9. Fudenberg, Drew & Levine, David K, 1989. "Reputation and Equilibrium Selection in Games with a Patient Player," Econometrica, Econometric Society, vol. 57(4), pages 759-78, July. [Downloadable!] (restricted)
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  10. Backus, David & Driffill, John, 1985. "Inflation and Reputation," American Economic Review, American Economic Association, vol. 75(3), pages 530-38, June. [Downloadable!] (restricted)
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  11. Lucas, Robert Jr. & Stokey, Nancy L., 1983. "Optimal fiscal and monetary policy in an economy without capital," Journal of Monetary Economics, Elsevier, vol. 12(1), pages 55-93. [Downloadable!] (restricted)
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  12. Abreu, Dilip, 1988. "On the Theory of Infinitely Repeated Games with Discounting," Econometrica, Econometric Society, vol. 56(2), pages 383-96, March. [Downloadable!] (restricted)
  13. Stokey, Nancy L, 1989. "Reputation and Time Consistency," American Economic Review, American Economic Association, vol. 79(2), pages 134-39, May. [Downloadable!] (restricted)
  14. Friedman, James W, 1971. "A Non-cooperative Equilibrium for Supergames," Review of Economic Studies, Blackwell Publishing, vol. 38(113), pages 1-12, January. [Downloadable!] (restricted)
  15. Atkeson, Andrew, 1991. "International Lending with Moral Hazard and Risk of Repudiation," Econometrica, Econometric Society, vol. 59(4), pages 1069-89, July. [Downloadable!] (restricted)
  16. Benoit, Jean-Pierre & Krishna, Vijay, 1985. "Finitely Repeated Games," Econometrica, Econometric Society, vol. 53(4), pages 905-22, July. [Downloadable!] (restricted)
  17. Prescott, Edward C., 1977. "Should control theory be used for economic stabilization?," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 7(1), pages 13-38, January. [Downloadable!] (restricted)
  18. Fudenberg, Drew & Maskin, Eric, 1986. "The Folk Theorem in Repeated Games with Discounting or with Incomplete Information," Econometrica, Econometric Society, vol. 54(3), pages 533-54, May. [Downloadable!] (restricted)
  19. Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-91, June. [Downloadable!] (restricted)
  20. Fudenberg, Drew & Kreps, David M & Maskin, Eric S, 1990. "Repeated Games with Long-run and Short-run Players," Review of Economic Studies, Blackwell Publishing, vol. 57(4), pages 555-73, October. [Downloadable!] (restricted)
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Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Filippo Occhino, 2005. "Optimal Fiscal Policy over the Business Cycle," Departmental Working Papers 200502, Rutgers University, Department of Economics. [Downloadable!]
    Other versions:
  2. Ricardo J. Caballero & Pierre Yared, 2008. "Future Rent-Seeking and Current Public Savings," NBER Working Papers 14417, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  3. Wolfgang Pesendorfer, 1992. "Sovereign Debt: Forgiving and Forgetting Reconsidered," Discussion Papers 1016, Northwestern University, Center for Mathematical Studies in Economics and Management Science. [Downloadable!]
  4. Samir Jahjah, 2001. "Financial Stability and Fiscal Crises in a Monetary Union," IMF Working Papers 01/201, International Monetary Fund. [Downloadable!]
  5. V. V. Chari & Lawrence J. Christiano & Martin Eichenbaum, 1996. "Expectation Traps and Discretion," NBER Working Papers 5541, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  6. Ricardo J. Caballero & Pierre Yared, 2008. "Inflating the Beast: Political Incentives Under Uncertainty," NBER Working Papers 13779, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  7. Andres Velasco, 1997. "Debts and Deficits with Fragmented Fiscal Policymaking," NBER Working Papers 6286, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  8. Christopher Phelan & Ennio Stacchetti, 1999. "Sequential equilibria in a Ramsey tax model," Staff Report 258, Federal Reserve Bank of Minneapolis. [Downloadable!]
    Other versions:
  9. V.V. Chari & Patrick J. Kehoe, 1989. "Sustainable plans," Staff Report 122, Federal Reserve Bank of Minneapolis. [Downloadable!]
    Other versions:
  10. Andres Velasco, 1997. "A Model of Endogenous Fiscal Deficits and Delayed Fiscal Reforms," NBER Working Papers 6336, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  11. Alexandre B. Cunha, 2006. "Implications of the Modigliani-Miller Theorem for the Study of Exchange Rate Regimes," IBMEC RJ Economics Discussion Papers 2006-03, Economics Research Group, IBMEC Business School - Rio de Janeiro. [Downloadable!]
  12. Christian Hellwig & Guido Lorenzoni, 2006. "Bubbles and Self-enforcing Debt," Levine's Bibliography 321307000000000383, UCLA Department of Economics. [Downloadable!]
    Other versions:
  13. Reis, Catarina, 2006. "Taxation without Commitment," MPRA Paper 2071, University Library of Munich, Germany. [Downloadable!]
  14. Michael D. Bordo & Finn E. Kydland, 1992. "The gold standard as a rule," Working Paper 9205, Federal Reserve Bank of Cleveland. [Downloadable!]
    Other versions:
  15. Michael T. Gapen & Thomas F. Cosimano, 2003. "Optimal Fiscal and Monetary Policy with Nominal and Indexed Debt," IMF Working Papers 03/225, International Monetary Fund. [Downloadable!]
  16. V.V. Chari & Patrick J. Kehoe, 1989. "Sustainable plans and mutual default," Staff Report 124, Federal Reserve Bank of Minneapolis. [Downloadable!]
    Other versions:
  17. Cunha, Alexandre B., 2002. "Does It Really Matter Whether the Exchange Rate Floats or Not?," Ibmec Working Papers wpe_29, Ibmec Working Paper, Ibmec São Paulo. [Downloadable!]
  18. Guido Tabellini, 1989. "The Politics of Intergenerational Redistribution," NBER Working Papers 3058, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  19. Carlos Álvarez, 2003. "The Role Of Institutions To Solve Sovereing Debt Problems: The Spanish Monarchy´S Credit (1516-1665)," Working Papers in Economic History wh030804, Universidad Carlos III, Departamento de Historia Económica e Instituciones. [Downloadable!]
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