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Fiscal sustainability and policy rules under changing demographic forecasts

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  • Lassila, Jukka
  • Valkonen, Tarmo
  • Alho, Juha M.

Abstract

All practical evaluations of fiscal sustainability that include the effects of population ageing must utilize demographic forecasts. It is well known that such forecasts are uncertain, and that has been taken into account in some studies by using stochastic population projections jointly with economic models. We develop this approach further by introducing regular demographic forecast revisions that are embedded in stochastic population projections. This allows us to separate systematically, in each demographic outcome and under different policy rules, the expected and the actualized effects of population ageing on public finances. We show that the likelihood of sustainability risks is significant, and that it would be wise to consider policies that reduce the likelihood of getting highly indebted. Furthermore, although demographic forecasts are uncertain, they seem to contain enough information to be useful in forward-looking policy rules.

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Bibliographic Info

Paper provided by The Research Institute of the Finnish Economy in its series Discussion Papers with number 1265.

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Length: 36 pages
Date of creation: 2011
Date of revision:
Handle: RePEc:rif:dpaper:1265

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Keywords: public finance; fiscal sustainability; stochastic population simulations; changing demographic forecasts;

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References

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  1. Blanchard, Olivier J, 1985. "Debt, Deficits, and Finite Horizons," Journal of Political Economy, University of Chicago Press, vol. 93(2), pages 223-47, April.
  2. Enrique G. Mendoza & P. Marcelo Oviedo, 2009. "Public Debt, Fiscal Solvency and Macroeconomic Uncertainty in Latin America The Cases of Brazil, Colombia, Costa Rica and Mexico," Economia Mexicana NUEVA EPOCA, , vol. 0(2), pages 133-173, July-Dece.
  3. Alho, Juha M. & Vanne, Reijo, 2006. "On predictive distributions of public net liabilities," International Journal of Forecasting, Elsevier, vol. 22(4), pages 725-733.
  4. Carmen M. Reinhart & Kenneth S. Rogoff, 2010. "Growth in a Time of Debt," NBER Working Papers 15639, National Bureau of Economic Research, Inc.
  5. Jukka Lassila & Tarmo Valkonen, 2004. "Pre-funding Expenditure on Health and Long-term Care under Demographic Uncertainty," The Geneva Papers on Risk and Insurance, The International Association for the Study of Insurance Economics, vol. 29(4), pages 620-639, October.
  6. Nico Keilman, 2008. "European Demographic Forecasts Have Not Become More Accurate Over the Past 25 Years," Population and Development Review, The Population Council, Inc., vol. 34(1), pages 137-153.
  7. Auerbach, Alan J. & Lee, Ronald D, 2007. "Notional Defined Contribution Pension Systems in a Stochastic Context: Design and Stability," Berkeley Olin Program in Law & Economics, Working Paper Series qt37k785qq, Berkeley Olin Program in Law & Economics.
  8. Eric M. Leeper, 2010. "Monetary science, fiscal alchemy," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 361-434.
  9. Jukka Lassila & Tarmo Valkonen, 2007. "The Finnish Pension Reform of 2005," The Geneva Papers on Risk and Insurance - Issues and Practice, Palgrave Macmillan, vol. 32(1), pages 75-94, January.
  10. Jukka Lassila & Tarmo Valkonen & Juha M. Alho, 2011. "Assessing the sustainability of health and long-term care financing - and the usefulness of policy guidelines based on demographic forecasts," Chapters, in: Three takes sustainability. VATT Publications 58, pages 151-175 The Research Institute of the Finnish Economy.
  11. Alho, Juha M. & Hougaard Jensen, Svend E. & Lassila, Jukka & Valkonen, Tarmo, 2005. "Controlling the effects of demographic risks: the role of pension indexation schemes," Journal of Pension Economics and Finance, Cambridge University Press, vol. 4(02), pages 139-153, July.
  12. Valkonen, Tarmo, 2002. "Demographic Uncertainty and Taxes," Discussion Papers 816, The Research Institute of the Finnish Economy.
  13. Pål Ulla, 2006. "Assessing Fiscal Risks through Long-term Budget Projections," OECD Journal on Budgeting, OECD Publishing, vol. 6(1), pages 127-187.
  14. Lee, Ronald & Tuljapurkar, Shripad, 1998. "Uncertain Demographic Futures and Social Security Finances," American Economic Review, American Economic Association, vol. 88(2), pages 237-41, May.
  15. repec:nsr:niesrd:250 is not listed on IDEAS
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Cited by:
  1. Amélie Lecocq & Marcelin Joanis, 2013. "Au-delà des certitudes : Pouvoir gris, obésité et autres dimensions incertaines de l’impact budgétaire du vieillissement," Cahiers de recherche 13-08, Departement d'Economique de la Faculte d'administration à l'Universite de Sherbrooke.

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