Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/212086 
Authors: 
Year of Publication: 
2007
Series/Report no.: 
Bank of Finland Research Discussion Papers No. 28/2007
Publisher: 
Bank of Finland, Helsinki
Abstract: 
Shocks to monetary and fiscal policy have played a major role in public debt developments in the OECD countries since the mid-1970s. According to the applied VAR approach, these shocks, taken together, explained, on average, about half of the forecast error variation in the debt to GDP ratio, while the share of shocks to GDP growth was close to 30 percent. In contrast, shocks to inflation and the debt ratio itself played in most cases only a minor role. However, the inflation shocks were vital in initiating the public debt problems, as the increase in actual inflation, and particularly the persistence of high inflation expectations in the 1980s, led to a prolonged period of high real interest rates. Learning the implications of greater monetary discipline therefore gave rise to `some unpleasant fiscal arithmetic' which aggravated debt problems. In most countries fiscal policy aimed at correcting the deterioration in fiscal balances, but the progress was in most cases slow and delayed. It is noticeable that public debt developments have been quite similar in both the United States and the euro area despite differences in fiscal policy and the role of the public sector. Shocks to GDP growth, inflation and monetary policy, which have been more similar in both continents, explain about two thirds of the forecast error variation of the debt to GDP ratio, while shocks to fiscal policy explain about 20 percent.
Subjects: 
public debt dynamics
fiscal policy
monetary policy
VAR models
JEL: 
E62
H62
C22
Persistent Identifier of the first edition: 
ISBN: 
978-952-462-405-3
Document Type: 
Working Paper

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