Fiscal Implications of Interest Rate Normalization in the United States

Huixin Bi, Wenyi Shen and Shu-Chun Yang

No 2019/090, IMF Working Papers from International Monetary Fund

Abstract: This paper studies the main channels through which interest rate normalization has fiscal implications in the United States. While unexpected inflation reduces the real value of government liabilities, a rising policy rate increases government financing needs because of higher interest payments and lower real bond prices. After an initial decline, the real government debt burden rises even with higher tax revenues in an expansion. Given the current net debt-to-GDP ratio at around 80 percent, interest rate normalization leads to a negligible increase in the sovereign default risk of the U.S. federal government, despite a much higher federal debt-to-GDP ratio than the post-war historical average.

Keywords: WP; interest rate; income tax; monetary policy; interest rate normalization; monetary and fiscal policy interaction; fiscal sustainability; non linear DSGE models; New Keynesian model; devaluation effect; income tax tax rate; debt level; equilibrium debt valuation equation; liabilities decline; Central bank policy rate; Inflation; Capital income tax; Interest payments (search for similar items in EconPapers)
Pages: 45
Date: 2019-05-03
New Economics Papers: this item is included in nep-dge and nep-mac
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Related works:
Journal Article: Fiscal implications of interest rate normalization in the United States (2022)
Working Paper: Fiscal Implications of Interest Rate Normalization in the United States (2020)
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