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Distributional Effects of Fiscal Consolidation

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  • Svend E. Hougaard Jensen
  • Thomas F. Rutherford

Abstract

This paper examines the distributional consequences of public debt reduction achieved through spending cuts. Under the assumption that public goods and transfers are relatively more valuable to the poor, our calculations indicate that the elderly poor stand to lose from such policies. Debt reduction produces short-term deficits and long-term surpluses, and when future surpluses are recycled into higher provision of public goods and transfers, future generations of poor could gain. If future surpluses are recycled through lower labour taxes, working households in the future would be positively affected. We conclude that debt reduction could have positive or negative impacts on vertical equity, yet inter- rather than intra-generational equity is likely to pose the greatest obstacle to fiscal consolidation. Based on majority voting by self-interested households, debt reduction would never occur. Yet, in a formal social welfare analysis, some debt reduction programmes may be deemed beneficial with social discount factors as high as two percent. When we then consider alternative time profiles for debt reduction, we conclude that slower is better.

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Paper provided by Economic Policy Research Unit (EPRU), University of Copenhagen. Department of Economics in its series EPRU Working Paper Series with number 99-24.

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Handle: RePEc:kud:epruwp:99-24

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Cited by:
  1. Sebastian Rausch & Thomas F. Rutherford, 2008. "Computation of Equilibria in OLGModels with Many Heterogeneous Households," CER-ETH Economics working paper series 08/90, CER-ETH - Center of Economic Research (CER-ETH) at ETH Zurich.
  2. Thomas Fox Rutherford & Svend E. Hougaard Jensen & Tobias N. Rasmussen, 2002. "Economic Transition, Entrepreneurial Capacity, and Intergenerational Distribution," IMF Working Papers 02/180, International Monetary Fund.
  3. Rasmussen, Tobias N. & Rutherford, Thomas F., 2004. "Modeling overlapping generations in a complementarity format," Journal of Economic Dynamics and Control, Elsevier, vol. 28(7), pages 1383-1409, April.
  4. T. Buyse & F. Heylen, 2012. "Leaving the empirical (battle)ground: Output and welfare effects of fiscal consolidation in general equilibrium," Working Papers of Faculty of Economics and Business Administration, Ghent University, Belgium 12/826, Ghent University, Faculty of Economics and Business Administration.
  5. World Bank, 2008. "Montenegro : Beyond the Peak, Growth Policies and Fiscal Constraints, Public Expenditure and Institutional Review," World Bank Other Operational Studies 7831, The World Bank.
  6. Rausch, Sebastian, 2013. "Fiscal consolidation and climate policy: An overlapping generations perspective," Energy Economics, Elsevier, vol. 40(S1), pages S134-S148.

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