TY - JOUR AU - Caballero,Ricardo J. AU - Yared,Pierre TI - Future Rent-Seeking and Current Public Savings JF - National Bureau of Economic Research Working Paper Series VL - No. 14417 PY - 2008 Y2 - October 2008 UR - http://www.nber.org/papers/w14417 L1 - http://www.nber.org/papers/w14417.pdf N1 - Author contact info: Ricardo J. Caballero MIT Department of Economics Room E52-373a Cambridge, MA 02142-1347 Tel: 617/253-0489 Fax: 617/253-6915 E-Mail: caball@mit.edu Pierre Yared Columbia University Graduate School of Business 3022 Broadway, Uris Hall 823 New York, NY 10027 Tel: 212/854-9670 Fax: 212/662-8474 E-Mail: pyared@columbia.edu AB - The conventional wisdom is that politicians' rent-seeking motives increase public debt and deficits. This is because myopic politicians face political risk and prefer to extract political rents as early as possible. An implication of this argument is that governments will under-save during a boom, leaving the economy unprotected in the event of a downturn. This view motivates a number of fiscal rules which are aimed at cutting deficits and constraining borrowing so as to limit the size of this political distortion. In this paper we study the determination of government debt and deficits in a dynamic model of debt which characterizes political distortions. We find that in our model the conventional wisdom always applies in the long run, but only does so in the short run when economic volatility is low. Instead, when economic volatility is high, a rent-seeking government over-saves and over-taxes along the equilibrium path relative to a benevolent government. Paradoxically, the over-saving bias can also be solved in this case by a rule of capping deficits, although the mechanism operates through its effect on expectations of future rent extraction rather than though the contemporary constraint. However, these rules are ineffective in solving the high taxation problem caused by the political friction, which in the short run is more acute in the high income volatility scenario. ER -