Working Paper: CEPR ID: DP2076
Authors: Neil Rankin; Barbara Roffia
Abstract: The theoretical determinants of maximum sustainable government debt are investigated using Diamond's overlapping-generations model. A level of debt is defined to be 'sustainable' if a steady state with non-degenerate values of economic variables exists. We show that a maximum sustainable level of debt almost always exists. Most interestingly, it normally occurs at a 'catastrophe' rather than a 'degeneracy', i.e. where variables such as capital and consumption are in the interiors, rather than at the limits, of their economically meaningful ranges. This means that if debt is increased step by step, the economy may suddenly collapse without obvious warning.
Keywords: maximum sustainable government debt; overlapping generations; catastrophes
JEL Codes: E62; H63
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| maximum sustainable government debt (H63) | economic sustainability (Q01) |
| increasing government debt (H63) | economic collapse (F65) |
| maximum sustainable government debt (H63) | private capital crowding out (F21) |
| type of debt instrument used (H63) | degree of crowding out (E62) |
| debt management policy employed (H63) | stability of economy at maximum sustainable debt levels (H63) |