What is a Sustainable Public Debt? / Pablo D'Erasmo, Enrique G. Mendoza, Jing Zhang.

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D'Erasmo, Pablo

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Material type: Text

TextSeries: Working Paper Series (National Bureau of Economic Research) ; no. w21574.Publication details: Cambridge, Mass. National Bureau of Economic Research 2015.Description: 1 online resource: illustrations (black and white)Subject(s):

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Abstract: The question of what is a sustainable public debt is paramount in the macroeconomic analysis of fiscal policy. This question is usually posed as asking whether the outstanding public debt and its projected path are consistent with those of the government's revenues and expenditures (i.e. whether fiscal solvency conditions hold). We identify critical flaws in the traditional approach to evaluate debt sustainability, and examine three alternative approaches that provide useful econometric and model-simulation tools to analyze debt sustainability. The first approach is Bohn's non-structural empirical framework based on a fiscal reaction function that characterizes the dynamics of sustainable debt and primary balances. The second is a structural approach based on a calibrated dynamic general equilibrium framework with a fully specified fiscal sector, which we use to quantify the positive and normative effects of fiscal policies aimed at restoring fiscal solvency in response to changes in debt. The third approach deviates from the others in assuming that governments cannot commit to repay their domestic debt, and can thus optimally decide to default even if debt is sustainable in terms of fiscal solvency. We use these three approaches to analyze debt sustainability in the United States and Europe after the recent surge in public debt following the 2008 crisis, and find that all three raise serious questions.

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Item type	Home library	Collection	Call number	Status	Date due	Barcode	Item holds
Working Paper	Biblioteca Digital	Colección NBER	nber w21574 (Browse shelf(Opens below))	Not For Loan

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September 2015.

The question of what is a sustainable public debt is paramount in the macroeconomic analysis of fiscal policy. This question is usually posed as asking whether the outstanding public debt and its projected path are consistent with those of the government's revenues and expenditures (i.e. whether fiscal solvency conditions hold). We identify critical flaws in the traditional approach to evaluate debt sustainability, and examine three alternative approaches that provide useful econometric and model-simulation tools to analyze debt sustainability. The first approach is Bohn's non-structural empirical framework based on a fiscal reaction function that characterizes the dynamics of sustainable debt and primary balances. The second is a structural approach based on a calibrated dynamic general equilibrium framework with a fully specified fiscal sector, which we use to quantify the positive and normative effects of fiscal policies aimed at restoring fiscal solvency in response to changes in debt. The third approach deviates from the others in assuming that governments cannot commit to repay their domestic debt, and can thus optimally decide to default even if debt is sustainable in terms of fiscal solvency. We use these three approaches to analyze debt sustainability in the United States and Europe after the recent surge in public debt following the 2008 crisis, and find that all three raise serious questions.