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Public Debt Accumulation and Fiscal Consolidation

  • Oguro, Kazumasa
  • Sato, Motohiro

In this paper, we analyze the relationship between interest rates on government bonds (GB) and fiscal consolidation rule by using an overlapping generation model with endogenous and stochastic growth settings. Our key findings are summarized as follows. First, interest rates of GB may be declining as public debt accumulates relative to private capital, as opposed to the conventional view that buildup of public debt accompanies a rise in interest rates. Second, fiscal consolidation rule plays a key role in determining interest rates in equilibrium. Third, the economy may exhibit discrete changes with interest rates diverging, implying that our observation of relatively low GB interest rates does not assure the continuation of that trend in the future. Fourth, a preventive tax increase to contain public debt at sustainable levels will not gain the political support of existing generations, whose life span is limited. Citizens prefer to shift the ultimate burden of public debt to future generations.

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File URL: http://hermes-ir.lib.hit-u.ac.jp/rs/bitstream/10086/19282/1/pie_dp517.pdf
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Paper provided by Center for Intergenerational Studies, Institute of Economic Research, Hitotsubashi University in its series CIS Discussion paper series with number 517.

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Length: 31 p.
Date of creation: May 2011
Date of revision:
Handle: RePEc:hit:cisdps:517
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  1. Alesina, A. & Drazen, A., 1991. "Why Are Stabilizations Delayed?," Papers 6-91, Tel Aviv - the Sackler Institute of Economic Studies.
  2. Carmen M. Reinhart & Vincent R. Reinhart & Kenneth S. Rogoff, 2012. "Debt Overhangs: Past and Present," NBER Working Papers 18015, National Bureau of Economic Research, Inc.
  3. Roberto Perotti, 2007. "In Search of the Transmission Mechanism of Fiscal Policy," NBER Working Papers 13143, National Bureau of Economic Research, Inc.
  4. Uribe, Martin, 2006. "A fiscal theory of sovereign risk," Journal of Monetary Economics, Elsevier, vol. 53(8), pages 1857-1875, November.
  5. Velasco, Andres, 2000. "Debts and deficits with fragmented fiscal policymaking," Journal of Public Economics, Elsevier, vol. 76(1), pages 105-125, April.
  6. repec:dgr:uvatin:20090102 is not listed on IDEAS
  7. Carlo Favero & Francesco Giavazzi, 2007. "Debt and the effects of fiscal policy," Working Papers 07-4, Federal Reserve Bank of Boston.
  8. Bernoth, Kerstin & Schuknecht, Ludger & von Hagen, Jürgen, 2004. "Sovereign Risk Premia in the European Bond Market," CEPR Discussion Papers 4465, C.E.P.R. Discussion Papers.
  9. Romer, Paul M, 1986. "Increasing Returns and Long-run Growth," Journal of Political Economy, University of Chicago Press, vol. 94(5), pages 1002-37, October.
  10. John H. Cochrane, 2010. "Understanding Policy in the Great Recession: Some Unpleasant Fiscal Arithmetic," NBER Working Papers 16087, National Bureau of Economic Research, Inc.
  11. Thomas Laubach, 2003. "New evidence on the interest rate effects of budget deficits and debt," Finance and Economics Discussion Series 2003-12, Board of Governors of the Federal Reserve System (U.S.).
  12. Simone Manganelli & Guido Wolswijk, 2009. "What drives spreads in the euro area government bond market?," Economic Policy, CEPR;CES;MSH, vol. 24, pages 191-240, 04.
  13. Arellano, Cristina, 2008. "Default risk and income fluctuations in emerging economies," MPRA Paper 7867, University Library of Munich, Germany.
  14. Eaton, Jonathan & Gersovitz, Mark, 1981. "Debt with Potential Repudiation: Theoretical and Empirical Analysis," Review of Economic Studies, Wiley Blackwell, vol. 48(2), pages 289-309, April.
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