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Game Over: Simulating Unsustainable Fiscal Policy

In: Fiscal Policy after the Financial Crisis

Author

Listed:
  • Richard W. Evans
  • Laurence J. Kotlikoff
  • Kerk L. Phillips
Abstract
Fiscal sustainability is one of the most pressing policy issues of our time. Yet it remains difficult to quantify. Official debt is plagued with a number of measurement difficulties since its measurement reflects the choice of words, not policies. And forming the fiscal gap-the imbalance in the government's intertemporal budget-requires strong discount rate assumptions. An alternative approach, taken here, is specifying a stochastic general equilibrium model and determining via simulation how long it takes for the economy to reach game over-the point where current policy can no longer be maintained. Our simulations, based on an OLG model calibrated to the U.S. economy, produce an average duration to game over of roughly one century, with a 35 percent chance of reaching the fiscal limit in roughly 30 years. The prospect of man-made economic collapse produces large equity premia, like those observed in the data. Our simulations show that both the fiscal gap and the equity premium rise as the economy gets closer to hitting its fiscal limit, suggesting that the fiscal gap and the equity premium may be good indicators of unsustainable policy.
(This abstract was borrowed from another version of this item.)

Suggested Citation

  • Richard W. Evans & Laurence J. Kotlikoff & Kerk L. Phillips, 2012. "Game Over: Simulating Unsustainable Fiscal Policy," NBER Chapters, in: Fiscal Policy after the Financial Crisis, pages 177-202, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberch:12642
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    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. When is the US going to reach its fiscal limit?
      by Economic Logician in Economic Logic on 2012-04-06 20:12:00

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    More about this item

    JEL classification:

    • C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
    • C68 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computable General Equilibrium Models
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • H55 - Public Economics - - National Government Expenditures and Related Policies - - - Social Security and Public Pensions

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