Working Paper: CEPR ID: DP10078
Authors: Jens Hilscher; Alon Raviv; Ricardo Reis
Abstract: We propose and implement a method that provides quantitative estimates of the extent to which higher-than-expected inflation can lower the real value of outstanding government debt. Looking forward, we derive a formula for the debt burden that relies on detailed information about debt maturity and claimholders, and that uses option prices to construct risk-adjusted probability distributions for inflation at different horizons. The estimates suggest that it is unlikely that inflation will lower the US fiscal burden significantly, and that the effect of higher inflation is modest for plausible counterfactuals. If instead inflation is combined with financial repression that ex post extends the maturity of the debt, then the reduction in value can be significant.
Keywords: copulas; inflation; options; maturity of government debt; required reserves
JEL Codes: E31; E64; G18
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| higher inflation (E31) | lower real value of nominal debt (H63) |
| higher inflation + financial repression (E31) | significant reduction in debt value (G32) |
| maturity structure of debt (G32) | influence impact of inflation on debt burden (E31) |
| inflation (E31) | affect fiscal burden (E62) |