Are deficits free?
Brumm, Johannes; Feng, Xiangyu; Kotlikoff, Laurence; Kubler, Felix
JOURNAL OF PUBLIC ECONOMICS Year: 2022 Volume: 208.0
DOI: 10.1016/j.jpubeco.2022.104627
Abstract: De?cit ?nance, a.k.a. pay-go policy, is free when growth rates routinely exceed safe government borrowing rates. Or so many say. This note presents four counterexamples based on four versions of a simple OLG economy. In each version the growth rate exceeds the safe rate for one of four reasons – uninsured idiosyncratic risk, uninsured aggregate risk, policy uncertainty, and imperfect ?nancial intermediation. De?cit ?nance does not directly address any of these problems. What works, respectively speaking, is progressive taxation, bilateral intergenerational risk-sharing, early policy resolution, and improved inter-mediation. The four examples thus show that seemingly free de?cits may be more costly than they appear. Indeed, inef?cient pay-go policy can even lower the government’s borrowing rate, encouraging yet more de?cit ?nance.
