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Fiscal Shocks and Fiscal Risk Management

  • H. Lloyd-Ellis
  • Xiaodong Zhu

We use the returns on a set of international financial securities to identify exogenous shocks to the Canadian federal surplus. We find that a large portion of the variation in the surplus can be replicated by a linear combination of these returns and that the rising debt observed in the 1980s and 1990s was a result of adverse exogenous shocks and a delayed response by the government to these shocks. We develop a formal framework to evaluate the potential gains from a fiscal risk management strategy, using these securities to hedge against exogenous shocks. We show that fiscal risk management can generate significant welfare gains by enhancing the sustainability of fiscal policy and thereby lowering average tax rates.

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File URL: http://www.economics.utoronto.ca/public/workingPapers/UT-ECIPA-LLOYDELL-98-01.pdf
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Paper provided by University of Toronto, Department of Economics in its series Working Papers with number lloydell-98-01.

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Length: 29 pages
Date of creation: 10 Jul 1998
Date of revision:
Handle: RePEc:tor:tecipa:lloydell-98-01
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