Government Debt, Life-Cycle Income and Liquidity Constrains: Beyond Approximate Ricardian Equivalence

Author/Editor:

Steven A. Symansky ; Douglas Laxton ; Hamid Faruqee

Publication Date:

December 1, 1996

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary:

Evans (1991) has demonstrated that Blanchard’s (1985) finite-horizon model obeys approximate Ricardian equivalence. We show that this result is determined largely by an unrealistic assumption that labor income grows monotonically over a consumer’s entire lifetime. Introducing more realistic lifetime earnings profiles, we find that the effects of government debt on the real interest rate and the capital stock become considerably larger. In particular, leaving aside the effects of distortionary capital taxation, the extended model with liquidity constraints predicts that real interest rates would decline by about 150-200 basis points if government debt were eliminated completely in all OECD countries.

Series:

Working Paper No. 1996/140

Subject:

Consumption Disposable income Financial services Income National accounts Public debt Real interest rates

Notes:

Also published in Staff Papers, Vol. 44, No. 3, September 1997.

English

Publication Date:

December 1, 1996

ISBN/ISSN:

9781451928778/1018-5941

Stock No:

WPIEA1401996

Pages:

30

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