Berkeley ECON 202A - Lecture Outline 4 (15 pages)

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Lecture Outline 4



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Lecture Outline 4

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Pages:
15
School:
University of California, Berkeley
Course:
Econ 202a - Macroeconomic Theory

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Economics 202A Lecture Outline 4 version 1 3 Maurice Obstfeld Government Debt and Taxes As a result of the events of September 2008 government actions to underwrite the U S nancial system coupled with a massive recession and a huge scal stimulus plan are sharply increasing the U S federal debt Leaving aside the fascinating questions raised by the nancial crisis itself how do macroeconomists think about government debt and its e ects Should government debt matter at all after all leaving aside the possibility of borrowing from foreigners we owe any public debt to ourselves Because one logical possibility is that government debt somehow a ects capital accumulation and growth it is natural to consider the question in the context of our growth models The leading breakthrough on the subject is Peter A Diamond s American Economic Review 1965 adaptation of Paul A Samuelson s overlapping generations model to incorporate capital growth and public debt Incidentally this paper was written when Diamond was on the faculty here in Berkeley We shall study the Diamond model soon but before doing so we take a look at the debt question within the Ramsey Cass Koopmans RCK dynastic family setup There the answers are less interesting and perhaps less intuitive yet they provide an essential benchmark case for understanding the Diamond model s very di erent predictions Within the RCK framework we now wish to distinguish between the private sector and the government two sectors that add up to be the total economy of course As we are now therefore dropping the idea that a government planner makes allocation decisions we need to observe following basic welfare economics that the RCK allocation can be decentralized if private agents face the time path of real interest rates corresponding to that optimal allocation rt f 0 kt and earn real wages per unit labor given by the marginal product of labor wt f kt 1 f 0 kt kt Following Diamond 1965 I assume that the depreciation rate of capital is 0



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