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Growth and Public Debt: What Are the Relevant Tradeoffs?

Kazuo Nishimura (), Carine Nourry, Thomas Seegmuller () and Alain Venditti ()

No 1606, AMSE Working Papers from Aix-Marseille School of Economics, France

Abstract: The interplay between growth and public debt is addressed considering a Barro-type [1] endogenous growth model where public spending is financed through taxes on income and public debt. Debt is assumed to be a fixed proportion of GDP which is used as a policy parameter by the government. We first show that when debt is a large enough proportion of GDP, two distinct BGPs may co-exist, one being indeterminate. Therefore, local and global indeterminacy may arise and self-fulfilling expectations appear as a crucial ingredient to understand the impact of debt on growth and on macroeconomic fluctuations. We then exhibit two types of important trade-off associated with self-fulfilling expectations. First, we show that the lowest BGP is always decreasing with respect to the ratio of debt/GDP while the highest one is increasing. As a result, depending on the BGP selected by agents’ expectations, the relationship between debt and growth is not always negative. Second, we show that the highest BGP, which provides the highest welfare, is always locally indeterminate while the lowest is always locally determinate. Therefore, depending on the expectations of agents, when debt is increasing, large fluctuations associated to self-fulfilling believes may occur and be associated at the same time with welfare losses if there is a coordination on the low steady-state. Finally, a simple calibration exercise allows to provide an understanding of the recent experiences of many OECD countries.

Keywords: Endogenous growth; public spending; public debt; sunspot fluctuations (search for similar items in EconPapers)
JEL-codes: C62 E32 H23 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-mac and nep-pbe
Date: 2016-02, Revised 2015-12
References: View references in EconPapers View complete reference list from CitEc
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Related works:
Journal Article: Growth and Public Debt: What Are the Relevant Trade‐Offs? (2019) Downloads
Working Paper: Growth and Public Debt: What Are the Relevant Trade‐Offs? (2019)
Working Paper: Growth and Public Debt: What Are the Relevant Tradeoffs? (2015) Downloads
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