1
Intermediate
Macroeconomics
Lecture 12
2
Government Debt
? Scale of govern,debt
? Is budget deficit correctly measured?
? Traditional view of govern,Debt
? Ricardian equivalence
? Other possible effects of govern,debt
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Scale of Govern,Debt
90
91 92 93 94 95 96 97 98 99 00 01 02 03
C h in a 6.14 8.58 10.46 13.2
F r a n c e 39.5 40.3 44.7 51.6 55.3 62.9 66.5 68.2 70 66.2 65.4 65 66.7 68.4
G e r m a n y 41.5 38.8 41.8 47.4 47.9 57.1 60.3 61.8 63 61.2 60.5 60.2 62.4 63.7
J a p a n 64.6 61.1 63.5 69 73.9 80.4 86.5 92 103 115.8 123.4 132.6 142.7 151
Ta iw a n
25.57 28.66 28.92 31
U,S, 66.6 71.4 74.1 75.8 75 74.5 73.9 71.4 68 65.3 59.5 59.7 60.7 62
U,K, 44.4 44.3 49.2 58.1 55.8 60.6 60.1 60.5 62 56.3 51.5 50.7 50.8 50.6
?OECD Economic Outlook 72 (Dec,2002)
?http://www.economist.com
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Is Budget Deficit correctly measured?
1,Inflation
Real govern,debt stays the same
(100 apple,$1 each)
price rises 50%
? Nominal govern,debt becomes $150
? $50 deficit
Current method tends to overstate deficit when
there is inflation
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Is Budget Deficit correctly measured?
2,Capital Assets
Government’s assets and liabilities should
be considered (capital budgeting)
budget deficit = change in liabilities - change in assets
Hard to decide which expenditures should
count as capital expenditures…
6
Is Budget Deficit correctly measured?
3,Uncounted liabilities
Current measure excludes some important
govern,liabilities
e.g,pensions of govern,workers
social security system
contingent liability
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Is Budget Deficit correctly measured?
4,Business cycle
Recession,
Tax income decreases
Transfer increases
Budget deficit increases
Change in budget deficit depends not only on
govern,policies,but also on business cycle
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The Traditional View of Govern,Debt
? Short-run
Y
E
Y
r
E=C(Y-T)+I+G
Y=E
LM
IS
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The Traditional View of Govern,Debt
Tax cut
?Consumption increases
?Output increases
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The Traditional View of Govern,Debt
? Long-run
I,S
r
k
y
I
S=Y-C(Y-T)-G
i=sf(k)
k?
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The Traditional View of Govern,Debt
Tax cut
?Consumption increases
?National savings decrease
?Interest rate increases
?Investment decreases
?Lower steady state k and y
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The Ricardian View of Govern,Debt
? The basic logic of Ricardian Equivalence
Consumers are forward-looking,
Consumption does not depend on current
income alone,but depends on life-time
income
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The Ricardian View of Govern,Debt
Financing the govern,by debt is equivalent
to financing it by tax
--- Ricardian Equivalence
Private savings + public savings unchanged
The tax cut does not have any effect that
traditional analysis predicts,
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The Ricardian View of Govern,Debt
? However,the Ricardian equivalence does not
imply that all changes in fiscal policy are
irrelevant,
The tax cut is accompanied by the announcement
that the government will decrease its future
purchase
? Consumers would expect that there might not be
future tax increase,so that C increases…
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The Ricardian View of Govern,Debt
?The govern,budget constraint
If the govern,sells bonds at pd1 to finance its
deficit without cutting purchase
11 TGD ??
DrGT )1(22 ???
)11)(1(22 TGrGT ????
r
GG
r
TT
????? 1
21
1
21
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The Ricardian View of Govern,Debt
? Defenders of the traditional view believe
that future taxes do not have as large an
influence on current consumption as the
Ricardian view assumes,
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The Ricardian View of Govern,Debt
1,Myopia,people are short-sighted
2,Borrowing constraints
3,Future generations
(Robert Barro,people save for their future
generations ? consumers time horizon is
infinite)
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Other Views of Govern,Debt
1,Effects on monetary policy
2,Debt and political process
3,International effects