Optimal Debt Policy Under Asymmetric Risk

August 26, 2016

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Format: Chicago

Julio Escolano, and Vitor Gaspar. Optimal Debt Policy Under Asymmetric Risk, (USA: International Monetary Fund, 2016) accessed December 3, 2024

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

In the paper we show that, most of the time, smooth reduction in the debt ratio is optimal for tax-smoothing purposes when fiscal risks are asymmetric, with large debt-augmenting shocks more likely than commensurate debt reducing shocks. Asymmetric risks are a feature of 200 years of data for the U.S. and the U.K.: rare but recurrent large surges of the debt-to-GDP ratio, followed by very gradual but persistent declines over long periods. More informal evidence from many other countries suggests that asymmetry is a general feature of fiscal shocks. The gradual smooth reduction in the public debt to GDP ratio is not a response to past developments. Instead it is optimal given recurrent fiscal risks and the empirical characteristics of fiscal shocks. The behavior of the debt-to-GDP ratio in the U.K. and the U.S. seems roughly compatible with the prescriptions of the tax-smoothing model.

Subject: Asset and liability management, Debt reduction, Expenditure, Fiscal policy, Fiscal stance, Global financial crisis of 2008-2009, Public debt, Revenue administration

Keywords: Debt, Debt Policy, Debt ratio, Debt ratio decline, Debt reduction, Debt reduction policy, Debt shock, Fiscal Risks, Fiscal Shocks., Fiscal stance, Global, Government Debt, Optimal Debt Policies, Policy, Public debt debt ratio, Ratio, Tax ratio, WP

Publication Details

Pages:

21
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2016/178
Stock No:

WPIEA2016178
ISBN:

9781475529845
ISSN:

1018-5941

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