Optimal Fiscal and Monetary Policy, Debt Crisis, and Management

Abstract

The initial government debt-to-GDP ratio and the government's commitment play a pivotal role in determining the welfare-optimal speed of fiscal consolidation in the management of a debt crisis. Under commitment, for low or moderate initial government debt-to-GPD ratios, the optimal consolidation is very slow. A faster pace is optimal when the economy starts from a high level of public debt implying high sovereign risk premia, unless these are suppressed via a bailout by official creditors. Under discretion, the cost of not being able to commit is reflected into a quick consolidation of government debt. Simple monetary-fiscal rules with passive fiscal policy, designed for an environment with "normal shocks", perform reasonably well in mimicking the Ramsey-optimal response to one-off government debt shocks. When the government can issue also long-term bonds -under commitment -the optimal debt consolidation pace is slower than in the case of short-term bonds only, and entails an increase in the ratio between long and short-term bonds.

Economic Consequences of High Public Debt: Evidence from Three Large Scale DSGE Models

“…Finally, the results of this benchmark scenario are consistent in qualitative terms across the three models considered as also shown in scenario 3 for the BE model. 29 This brings forward two remarks. First, when the level of debt is high, the resilience of the economy to shocks is lower and the scope for 27 As used also in de Jong et al (2017).…”

Fiscal Buffers, Private Debt, and Stagnation: The Good, the Bad and the Ugly

“…This occurs in the form of an haircut G t 2 [0, 1] applied as a proportion to the outstanding stock of government debt. In order to be able to solve the model with perturbation methods, we follow Corsetti et al (2013) and Cantore et al (2015) in assuming that agents consider the ex-ante expected haircut rate,…”

What Do We Know About the Macroeconomic Effects of Fiscal Policy? A Brief Survey of the Literature on Fiscal Multipliers

“…Perotti () shows that fiscal multipliers may depend on the size of the debt‐to‐GDP ratio, which is in place when fiscal shocks occur. A DSGE‐based quantification of fiscal multipliers in the presence of normal vs. abnormal debt‐to‐GDP ratios is offered by Cantore et al (). Bernardini and Peersman () use state‐dependent local projections and historical US data and find that fiscal spending multipliers are particularly high during periods of private debt overhang thanks to crowding in.…”