Debt reduction and automatic stabilisation

Paul Hiebert, Massimo Rostagno () and Javier Pérez

No 189, Working Paper Series from European Central Bank

Abstract: This paper presents an optimal fiscal policy response to address the basic trade-off between the automatic stabilisation properties of budgets and the long run fiscal positions. The framework is an overlapping generations model la Weil (1989), extended to account for stochastic endowments and borrowing constrained households. A benign government chooses over the optimal degree of responsiveness of net taxes to individual incomes, an optimal measure of long-run public debt, or both, in order to smooth households' consumption across states of nature. In the presence of a deficit constraint for the government, the results unambiguously point to the desire for lower debt levels than those currently prevailing in order to enable a more effective hedging of personal income uncertainty by means of more active fiscal stabilisers. Citizens in economies exhibiting more pronounced cycles will favour less automatic stabilisation combined with a more aggressive policy of debt reduction. JEL Classification: H31, H63, E63

Keywords: automatic stabilisation; borrowing constraints; consumption; public debt (search for similar items in EconPapers)
Date: 2002-10
Note: 339054
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Citations: View citations in EconPapers (1)

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Working Paper: Debt reduction and automatic stabilisation (2002)
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