Fiscal Fatigue, Fiscal Space and Debt Sustainability in Advanced Economies
How high can public debt rise without compromising fiscal solvency? We answer this question using a stochastic ability-to-pay model of sovereign default in which risk-neutral investors lend to a government that displays "fiscal fatigue," because its ability to increase primary balances cannot keep pace with rising debt. As a result, the government faces an endogenous debt limit beyond which debt cannot be rolled-over. Using data for 23 advanced economies over 1970-2007, we find evidence of a fiscal reaction function with these features, and use it to compute "fiscal space," defined as the difference between projected debt ratios and debt limits.
We thank Olivier Blanchard, Henning Bohn, David Romer, and participants at the IMF's Eleventh Annual Jacques Polak Research Conference for helpful comments and suggestions. Any errors are the authors' responsibility. The views expressed herein are those of the authors, and should not be attributed to the IMF, its Executive Board, its management, or the National Bureau of Economic Research.
Atish R. Ghosh & Jun I. Kim & Enrique G. Mendoza & Jonathan D. Ostry & Mahvash S. Qureshi, 2013. "Fiscal Fatigue, Fiscal Space and Debt Sustainability in Advanced Economies," Economic Journal, Royal Economic Society, vol. 0, pages F4-F30, 02. citation courtesy of