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Government Debt Management: The Long and Short of It

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  • Rigas Oikonomou

    (HEC Montreal)

Abstract

We study optimal debt management and fiscal policy under incomplete nancial markets, assuming a benevolent planner and full commitment. Our aim is to find a simple setup which matches some basic facts of US debt management. In particular, we focus on solving a puzzle concerning why governments issue short term debt. Key is making the empirically plausible assumption that governments only redeem their debt at maturity ("no buy back"). In this case the share of short bonds is large, persistent and not volatile - as in the data. Long bonds provide fiscal insurance but under no buy back create a lumpy redemption prole which induces tax volatility. Issuing short term debt reduces this lumpiness and tax volatility. Short term debt is therefore issued for tax smoothing reasons rather than for their return properties. In order to analyse these models we propose two signicant extensions to the PEA class of computational methods which overcome problems of the near indeterminacy of the portfolio and the large size of the state space and which are suitable for a broad class of models.

Suggested Citation

  • Rigas Oikonomou, 2014. "Government Debt Management: The Long and Short of It," 2014 Meeting Papers 129, Society for Economic Dynamics.
    • Handle: RePEc:red:sed014:129
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    JEL classification:

    • C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

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