Sovereign Debt, Government Spending Cycles, and Back-loaded Pension Reforms

47 Pages Posted: 22 Mar 2017 Last revised: 2 Feb 2024

See all articles by Sean Myers

Sean Myers

The Wharton School, University of Pennsylvania

Date Written: November 1, 2019

Abstract

This paper studies the effect of public pension obligations on a sovereign government’s commitment to repaying debt. In the model, the government can renege on its pension promises but suffers a cost from losing the trust of households about future pensions. Large pension promises act as a commitment device for debt because they require the government to have regular access to credit markets. The government's decision to default is driven by its total obligations, not just its debt. Thus, there is a range of pension obligations large enough to act as a commitment device without raising total obligations to the point of default. This otherwise deterministic economy has an endogenous cycle in which periods of high spending and increasing debt are followed by periods of pension reform and debt reduction. The model successfully produces high debt in excess of 100% GDP without default and back-loaded pension cuts that match salient features of recent reforms in six EU nations.

Keywords: Sovereign default, Pension sustainability, European debt crisis, Endogenous cycles

JEL Classification: E23, E62, F34, H55

Suggested Citation

Myers, Sean, Sovereign Debt, Government Spending Cycles, and Back-loaded Pension Reforms (November 1, 2019). Available at SSRN: https://ssrn.com/abstract=2938638 or http://dx.doi.org/10.2139/ssrn.2938638

Sean Myers (Contact Author)

The Wharton School, University of Pennsylvania ( email )

The Wharton School
3620 Locust Walk
Philadelphia, PA 19104
United States

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