On the (de)stabilizing effect of public debt in a Ramsey model with heterogeneous agents

Abstract

We introduce public debt in a Ramsey model with heterogeneous agents and a public spending externality affecting utility which is financed by income tax and public debt. We show that public debt considered as a fixed portion of GDP can have a stabilizing or destabilizing effect, depending on some fundamental elasticities. When the public spending externality is weak and the elasticity of capital-labor substitution is low enough, public debt can only be destabilizing, generating damped or persistent macroeconomic fluctuations. However, when the public spending externality and the elasticity of capital-labor substitution are strong enough, public debt can be stabilizing, driving to monotone convergence an economy experiencing damped or persistent fluctuations without debt.

Fiscal policy, debt constraint and expectations-driven volatility

“…Note that a similar constraint has been considered by de la Croix and Michel[2], or more recently by Minea and Villieu[10] and Nishimura et al[11,12].…”

“…In accordance for instance with the Maastricht criteria, this restriction can be seen as a stabilizing constraint on debt that prevents any explosive behavior. It has previously been introduced by de la Croix and Michel [2], Minea and Villieu [10] and Nishimura et al [11,12]. In the following, α will be seen as a policy parameter under the control of the government.…”

“…Most of them consider endogenous growth frameworks, except Nishimura et al [11] who focus on a model with heterogenous agents, a constant tax rate and variable public spendings that play the role of an externality in utility. For instance, Greiner [6] exhibits the existence of a Hopf cycle, but there is no indeterminacy.…”

Growth and Public Debt: What Are the Relevant Trade‐Offs?

“…In Nishimura et al. (), we consider a Ramsey economy with heterogeneous agents in which public spending does not affect production. We assume that the tax rate is constant while public spending is endogenously adjusted.…”

Introduction to financial frictions and debt constraints

“…See for instance Futagami et al[16], Greiner[19] , Minea and Villieu[27,28] 9. A similar constraint has been considered by Minea and Villieu[28] and Nishimura et al[30] 10. Since they do not consider public debt, the tax rate depends on current income only and the existence of expectations-driven fluctuations goes through adjustments of the labor supply and requires a sufficiently large Frisch elasticity of labor.…”