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PUBLIC DEBT AND AGGREGATE RISK

Published online by Cambridge University Press:  22 November 2017

Audrey Desbonnet  and
Sumudu Kankanamge
Audrey Desbonnet
Affiliation:
Université Paris-Dauphine, PSL Research University, LEDa
Sumudu Kankanamge*
Affiliation:
Toulouse School of Economics, University of Toulouse Capitole
*
Address correspondence to: Sumudu Kankanamge, Toulouse School of Economics, GREMAQ–Manufacture des Tabacs, 21, allée de Brienne, 31000 Toulouse, France; e-mail: sumudu.kankanamge@tse-fr.eu.
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Abstract

In this paper, we investigate the importance of aggregate fluctuations for the assessment of the optimal level of public debt in an incomplete-markets economy. We start by building a steady state model in which households are only subject to uninsurable idiosyncratic risk and evaluate the optimal level of public debt. We then augment the model to allow for aggregate risk and measure the impact on the optimal level. We show that the cyclical behavior of the economy has a quantitative impact on this level that can be decomposed into the effects of the aggregate productivity shock and the cyclicality of unemployment. Moreover, we find that matching wealth distribution statistics substantially changes the optimal level of public debt.

Keywords

Public DebtAggregate RiskPrecautionary SavingCredit Constraints
Type
Articles
Information
Macroeconomic Dynamics , Volume 21 , Issue 8 , December 2017 , pp. 1996 - 2032
Copyright
Copyright © Cambridge University Press 2017 

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Footnotes

The authors wish to thank Yann Algan, Antoine d'Autume, Fabrice Collard, Wouter Den Haan, Jean-Olivier Hairault, Michel Juillard, Pierre Malgrange, Franck Portier, Gianluca Violante, Thomas Weitzenblum, the editor, William A. Barnett, the associate editor, and two anonymous referees for their helpful comments.

References

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