Public Debt in a Basic Endogenous Growth Model
7 Pages Posted: 14 Jan 2012
Date Written: January 14, 2012
In this note we work out the mechanism that makes public debt affect the allocation of resources in the long-run. To do so we analyze an AK growth model with elastic labour supply and a government sector. The government levies a distortionary income tax and issues bonds to finance both lump-sum transfers and non-distortionary public spending. We show that the long-run growth rate is the smaller the higher the debt ratio if the government adjusts public spending to meet its intertemporal budget constraint. If the government adjusts lump-sum transfers to fulfill its intertemporal budget constraint the public debt ratio does not affect the balanced growth rate.
Keywords: Government debt, intertemporal budget constraint, public spending, lump-sum transfers
JEL Classification: E62, H61, O41
Suggested Citation: Suggested Citation