The Limits of Political Compromise: Debt Ceilings and Political Turnover

50 Pages Posted: 11 May 2017

See all articles by Alexandre B. Cunha

Alexandre B. Cunha

Universidade Federal do Rio de Janeiro (UFRJ)

Emanuel Ornelas

Sao Paulo School of Economics

Multiple version iconThere are 2 versions of this paper

Date Written: April 10, 2017

Abstract

We study the desirability of limits on the public debt and of political turnover in an economy where incumbents have an incentive to set public expenditures above the socially optimal level due to rent-seeking motives. Parties alternate in office and cannot commit to future policies, but they can forge a political compromise where each party curbs excessive spending when in office if it expects future governments to do the same. In contrast to the received literature, we find that strict limits on government borrowing can exacerbate political economy distortions by making a political compromise unsustainable. This tends to happen when political turnover is limited. Conversely, a tight limit on the public debt fosters a compromise that yields the efficient outcome if political turnover is vigorous. Our analysis thus suggests that to sustain good economic policies, a society needs to restrict either the extent of political turnover or the ability of governments to issue debt, but not both.

Keywords: debt limits, political turnover, efficient policies, fiscal rules

JEL Classification: E610, E620, H300, H630

Suggested Citation

Cunha, Alexandre B. and Ornelas, Emanuel, The Limits of Political Compromise: Debt Ceilings and Political Turnover (April 10, 2017). CESifo Working Paper Series No. 6429, Available at SSRN: https://ssrn.com/abstract=2965969 or http://dx.doi.org/10.2139/ssrn.2965969

Alexandre B. Cunha

Universidade Federal do Rio de Janeiro (UFRJ) ( email )

Av. Pasteur, 250
Rio de Janeiro, RJ 22290240
Brazil

HOME PAGE: http://www.alexbcunha.com

Emanuel Ornelas (Contact Author)

Sao Paulo School of Economics ( email )

Rua Itapeva 474 s.1202
São Paulo, São Paulo 01332-000
Brazil

HOME PAGE: http://https://sites.google.com/site/emanuelornelaseo/

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