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Recurrent default or policy-optimal taxation

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  • Mark A. Roberts

    () (The University of Nottingham)

Abstract

Abstract This paper investigates the syndrome of “this time is different” with respect to Reinhart and Rogoff’s (This time is different: eight centuries of financial folly Princeton University Press, Princeton, 2011) interpretation of their extensive, historical data on financial default, and with particular regard to public debt in a closed-economy. Recurrent and over-generous promises to credulous investors of an ex ante, policy-optimal return amounts to an extra policy instrument in boosting the demand for public debt. In a numerical simulation of a version of the Diamond (Am Econ Rev 55:1126–1150, 1965) model, we find that the incentive for the policy-maker to pursue this strategy is trivial if taxes can be set at a policy-optimal level, but possibly over-riding if they cannot. Thus, the main result lines up with the empirical conclusion of Reinhart et al. (Debt intolerance. Debt intolerance, 2003) that “debt intolerant countries have weak fiscal structures”. The subsidiary result of the model is that defaulting countries will also have higher shares of public expenditure. Thus the model also predicts Wagner’s Law to the extent that fiscal structure is correlated with economic development.

Suggested Citation

  • Mark A. Roberts, 2017. "Recurrent default or policy-optimal taxation," Economic Change and Restructuring, Springer, vol. 50(3), pages 279-297, August.
  • Handle: RePEc:kap:ecopln:v:50:y:2017:i:3:d:10.1007_s10644-017-9211-8
    DOI: 10.1007/s10644-017-9211-8
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    References listed on IDEAS

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    1. Barro, Robert J & Gordon, David B, 1983. "A Positive Theory of Monetary Policy in a Natural Rate Model," Journal of Political Economy, University of Chicago Press, vol. 91(4), pages 589-610, August.
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    3. Tanzi, Vito & Zee, Howell H., 2000. "Tax Policy for Emerging Markets: Developing Countries," National Tax Journal, National Tax Association;National Tax Journal, vol. 53(2), pages 299-322, June.
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    5. Calvo, Guillermo A, 1988. "Servicing the Public Debt: The Role of Expectations," American Economic Review, American Economic Association, vol. 78(4), pages 647-661, September.
    6. Emanuel Kohlscheen, 2007. "Why Are There Serial Defaulters? Evidence from Constitutions," Journal of Law and Economics, University of Chicago Press, vol. 50, pages 713-730.
    7. North, Douglass C. & Weingast, Barry R., 1989. "Constitutions and Commitment: The Evolution of Institutions Governing Public Choice in Seventeenth-Century England," The Journal of Economic History, Cambridge University Press, vol. 49(04), pages 803-832, December.
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    More about this item

    Keywords

    Public debt; Unanticipated inflation; Dynamically-consistent; Instrument; Wagner’s Law;

    JEL classification:

    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

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