Social Risk, Fiscal Risk, and the Portfolio of Government Programs

Samuel Hanson, David S Scharfstein and Adi Sunderam

The Review of Financial Studies, 2019, vol. 32, issue 6, 2341-2382

Abstract: We develop a model of government portfolio choice in which the government chooses the scale of risky projects in the presence of market failures and tax distortions. These frictions motivate the government to manage social risk and fiscal risk. Social risk management favors programs that ameliorate market failures in bad times. Fiscal risk management makes unattractive programs involving large government outlays when other government programs also require large outlays. These two risk management motives often conflict. Using the model, we explore how the attractiveness of different financial stability programs varies with the government’s fiscal burden and characteristics of the economy. Received December 19, 2016; editorial decision June 28, 2018 by Editor Itay Goldstein. Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.

Date: 2019
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