Économie et Statistique n° 451-452-453 - Macroeconomic modeling : continuity, tensions
Debt Reduction in a Monetary Union: A Structural Model
This article describes a general equilibrium model of two economies in a monetary union, with a single monetary policy but separate fiscal policies. One country, the smaller of the two, implements a plan to stabilize its public debt. The model postulates non-Ricardian households who are not indifferent to the alternative of financing public spending through debt rather than taxes. Households are of two kinds: the first, called Keynesian, consume their entire disposable income as described by Galí et al. (2007); the others are represented by nested cohorts as in Yaari (1965) and Blanchard (1985). We calibrate the model to ensure that the stationary equilibrium reflects realistic ratios between main aggregates for the advanced countries. But our aim is not to assess a consolidation plan adopted by a given country-for example, in the current European context-especially as the model does not reproduce the characteristics of a financial crisis such as restrictions on credit access, agents' defaults, and prices that do not reflect fundamentals. With these reservations, we simulate five measures to stabilize the public debt: a VAT increase, a rise in social contributions (first for employees, then for employers), a decrease in pension benefits, and public-spending cuts. In every instance, the Keynesian multiplier is positive in the first year, with public-deficit reduction curbing growth. In the short term, an ex-ante decrease in the public deficit of one point of GDP reduces GDP by between 0.3 points (if employers' social contributions rise) and 0.9 (if public spending is cut). In the longer run, pension reform, a VAT hike, or public-spending cuts are more effective than the rise in employees' or employers' social contributions.