Public Debt Dynamics: The Effects of Austerity, Inflation, and Growth Shocks

September 1, 2012

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

We study how macroeconomic shocks affect U.S. public debt dynamics using a VAR with debt feedback. Following a fiscal austerity shock, the debt ratio initially declines and then returns to its pre-shock path. Yet, the effect is not statistically significant. In a weak economic environment, the likelihood of a self-defeating austerity shock is much higher than in normal times. An inflation shock only slightly reduces the debt ratio for a few quarters. A positive growth shock unambiguously lowers debt. In our specification, the debt ratio is stationary, whereas a VAR excluding debt may imply an explosive debt path.

Subject: Debt sustainability analysis, Econometric analysis, External debt, Fiscal policy, Fiscal stance, Inflation, Prices, Public debt, Vector autoregression

Keywords: austerity shock, baseline debt ratio, debt dynamics, debt feedback, debt impulse responses, debt ratio decline, debt reduction, Debt sustainability analysis, fiscal policy, Fiscal stance, Global, impulse responses, Inflation, inflation shock, Public debt, VAR, Vector autoregression, WP

Pages:
28
Volume:
2012
DOI:
https://doi.org/10.5089/9781475510553.001
Issue:
230
Series:
Working Paper No. 2012/230
Stock No:
WPIEA2012230
ISBN:
9781475510553
ISSN:
1018-5941

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