Fiscal strategies,foreign indebtedness,and overlapping generations

Conclusions This paper offers a unifying dynamic system approach to real government debt and real capital formation in a world economy. The sustainability of permanently maintained primary fiscal deficits is investigated in an open economy. In particular if national governments compete in the issuance of debt at an international capital market sustainable debt profiles appear only as a theoretical (i. e., not empirically valid) curiosity. Within the more realistic regime of an undercapitalized world economy a nation can only run a permanently maintained primary surplus. Starting from a PMP surplus the paper also demonstrates the viability of temporary deficits implying an increase in taxation later to stabilize the fiscal debt. By reversing the argument this shows, the right way to reduce government debt in a non-traumatic manner is to run a higher temporary surplus via higher taxation. Using this extrasurplus to buy back fiscal debt the economy may reduce taxation later while enjoying vigorous capital accumulation towards a higher capital-labour ratio. Furthermore, the paper shows that ceteris paribus a relatively high social security load and a relatively high size of a balanced budget causes external indebtedness via consumption oriented current account deficits. It is left for further research to see what happens if government borrows for public investment instead of public consumption.My research was supported by Deutsche Forschungsgemeinschaft. While preparing the paper 1 had access to unpublished work by M. Carlberg and T. Ihori. Discussions with M. Carlberg, H. Großmann, J. Michaelis, and H. Schmid are gratefully acknowledged. The diagrams were mastered by C. Schwarz.