A Goldilocks Theory of Fiscal Policy

Atif Mian, Ludwig Straub and Amir Sufi
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Amir Sufi: Chicago Booth and NBER

Working Papers from Princeton University. Economics Department.

Abstract: Fiscal policy in advanced economies faces a "Goldilocks dilemma": Fiscal consolidation risks prolonged episodes at the zero lower bound (ZLB), while fiscal expansion raises sustainability concerns. This paper proposes a dynamic fiscal policy framework to study fiscal space subject to this trade-off. At the core of our analysis is a deficit-debt diagram, which we use to measure how much fiscal expansion is necessary to avoid the ZLB, when fiscal policy can run deficits indefinitely, and at what debt level the interest rate rises above the growth rate. Rising inequality and weak aggregate demand expand fiscal space, allowing greater indefinite deficits, while slowing growth tightens the ZLB constraint, requiring greater and greater debt levels. We characterize the effects of various tax policies on fiscal space and provide a cross-country comparison.

Keywords: fiscal policy; "Goldilocks dilemma" (search for similar items in EconPapers)
JEL-codes: E62 (search for similar items in EconPapers)
Date: 2021-07
New Economics Papers: this item is included in nep-dge and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (6)

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https://scholar.harvard.edu/files/straub/files/goldilocks.pdf

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Persistent link: https://EconPapers.repec.org/RePEc:pri:econom:2021-37

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