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Working Paper
The Value of Constraints on Discretionary Government Policy
This paper investigates how institutional constraints discipline the behavior of discretionary governments subject to an expenditure bias. The focus is on constraints implemented in actual economies: monetary policy targets, limits on the deficit and debt ceilings. For a variety of aggregate shocks considered, the best policy is to impose a minimum primary surplus of about half a percent of output. Most welfare gains from constraining government behavior during normal times, which to a large extent is sufficient to discipline policy in adverse times. Monetary policy targets are not generally ...
Working Paper
How to Starve the Beast: Fiscal Policy Rules
Countries have widely imposed fiscal rules designed to constrain government spending and ensure fiscal responsibility. This paper studies the effectiveness and welfare implications of revenue, deficit and debt rules when governments are discretionary and profligate. The optimal prescription is a revenue ceiling coupled with a balance budget requirement. For the U.S., the optimal revenue ceiling is about 15% of output, 3 percentage points below the postwar average. Most of the benefits can still be reaped with a milder constraint or escape clauses during adverse times. Imposing a single fiscal ...
Discussion Paper
Is China Running Out of Policy Space to Navigate Future Economic Challenges?
After making progress slowing the pace of debt accumulation prior to the pandemic, China saw its debt levels surge in 2020 as the government responded to the severe economic slowdown with credit-led stimulus. With China currently in the midst of another sharp decline in economic activity due to its property slump and zero-COVID strategy, Chinese authorities have responded again by pushing out credit to soften the downturn despite already high levels of debt on corporate, household, and government balance sheets. In this post, we revisit China’s debt buildup and consider the growing ...
Working Paper
How to Starve the Beast: Fiscal Policy Rules
Countries have widely imposed fiscal rules designed to constrain government spending and ensure fiscal responsibility. This paper studies the effectiveness and welfare implications of revenue, deficit and debt rules when governments are discretionary and profligate. The optimal prescription is a revenue ceiling coupled with a balance budget requirement. For the U.S., the optimal revenue ceiling is about 15% of output, 3 percentage points below the postwar average, and yields welfare gains equivalent to 10% of consumption. Most of the benefits can still be reaped with a milder constraint or ...
Journal Article
The Economic Impact of COVID-19 around the World
This article provides an account of the worldwide economic impact of the COVID-19 shock. In 2020, it severely impacted output growth and employment, particularly in middle-income countries. Governments responded primarily by increasing expenditure, supported by an expansion of the supply of money and debt. These policies did not put upward pressure on prices until 2021. International trade was severely disrupted across all regions in 2020 but subsequently recovered. For 2021, we find that the adverse effects of the COVID-19 shock on output and prices were significant and persistent, ...
Working Paper
A Tax Plan for Endogenous Innovation
In times when elevated government debt raises concerns about dimmer global growth prospects, we ask: How can the government provide incentives for innovation in a fiscally sustainable way? We address this question by examining the Ramsey problem of finding optimal tax and subsidy schemes in a model in which growth is endogenously sustained by risky innovation. We characterize the shadow value of growth and entry in the innovation sector. We find that a profit tax is required to replicate the first-best in order to balance the externalities associated with innovative activity. At the ...
Working Paper
Lottery Loans in the Eighteenth Century
In the 18th century Britain frequently issued lottery loans, selling bonds whose size was determined by a draw soon after the sale. The probability distribution was perfectly known ex-ante and highly skewed. After the draw the bonds were identical (except for size) and indistinguishable from regular bonds. I collect market prices for the lottery tickets and show that investors were paying a substantial premium to be exposed to this purely artificial risk. I show that investors were well-to-do and included many merchants and bankers. I turn to cumulative prospect theory to make sense of these ...
Newsletter
How Much Debt Does the U.S. Government Owe?
The U.S. government is often referred to as the world?s biggest debtor. But how much debt does it owe? A visit to the website of the U.S. Department of the Treasury yields a bewildering array of different measures of U.S. federal government debt. Although the gross debt of the U.S. federal government is approaching $18 trillion, the debt that is subject to the debt limit is a few billion dollars smaller, while debt in the hands of the public is less than $13 trillion.
Working Paper
How to Starve the Beast: Fiscal Policy Rules
Countries have widely imposed fiscal rules designed to constrain government spending and ensure fiscal responsibility. This paper studies the effectiveness and welfare implications of revenue, deficit and debt rules when governments are discretionary and prone to overspending. The optimal prescription is a revenue ceiling coupled with a balance budget requirement. For the U.S., the optimal revenue ceiling is about 15% of output, 3 percentage points below the postwar average. Most of the benefits can still be reaped with a milder constraint or escape clauses during adverse times. Imposing a ...
Discussion Paper
The Rapidly Changing Nature of Japan’s Public Debt
Japan’s general government debt-to-GDP ratio is the highest of advanced economies, due in part to increased spending on social services for an aging population and a level of nominal GDP that has not increased for two decades. The interest rate payments from taxpayers on this debt are moderated by income earned on government assets and by low interest rates. One might think that the Bank of Japan’s purchases of government bonds would further ease the burden on taxpayers, with interest payments to the Bank of Japan on its bond holdings rebated back to the government. Merging the balance ...