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A NOTE ON OPTIMAL DEBT REDUCTION POLICIES

Published online by Cambridge University Press:  21 February 2019

Davide la Torre  and
Simone Marsiglio
Davide la Torre*
Affiliation:
University of Dubai and University of Milan
Simone Marsiglio
Affiliation:
University of Pisa
*
Address correspondence to: Davide La Torre, Dubai Business School, University of Dubai, Academic City, Dubai 14143, UAE and Department of Economics, Management, and Quantitative Methods, University of Milan, via Conservatorio 7, Milan 20122, Italy. e-mails: [email protected]; [email protected]. Phone: +97145566927.
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Abstract

We analyze the optimal debt reduction problem in an uncertainty context. The social planner has a finite horizon and seeks to minimize the social costs associated with debt repayment by taking into account not only the short-run costs of the policy, but also the long-run costs associated with the outstanding level of debt. We characterize the optimal policy and the dynamics of the debt-to-GDP ratio, showing that it will decrease over time if economic policy is effective enough. We characterize how the evolution of the debt-to-GDP ratio depends on the main parameters and we present a simple calibration based on Greek data to illustrate the implications of our analysis in real-world setups.

Keywords

Debt ReductionOptimal PolicyUncertainty
Type
Notes
Information
Macroeconomic Dynamics , Volume 24 , Issue 7 , October 2020 , pp. 1850 - 1860
Copyright
© Cambridge University Press 2019

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Footnotes

We are indebted to two anonymous referees and the associate editor for their constructive comments which helped us to substantially improve our paper. All errors and omissions are our own sole responsibility.

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