A NOTE ON OPTIMAL DEBT REDUCTION POLICIES

Davide La Torre and Simone Marsiglio

Macroeconomic Dynamics, 2020, vol. 24, issue 7, 1850-1860

Abstract: We analyze the optimal debt reduction problem in an uncertainty context. The social planner has a finite horizon and seeks to minimize the social costs associated with debt repayment by taking into account not only the short-run costs of the policy, but also the long-run costs associated with the outstanding level of debt. We characterize the optimal policy and the dynamics of the debt-to-GDP ratio, showing that it will decrease over time if economic policy is effective enough. We characterize how the evolution of the debt-to-GDP ratio depends on the main parameters and we present a simple calibration based on Greek data to illustrate the implications of our analysis in real-world setups.

Date: 2020
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