time consistent public policy in this paper we study how a benevolent government that cannot commit to future policy should trade off the costs and benefits of public expenditure we characterize and solve for markov perfect equilibria of the dynamic game between successive governments the characterization consists of an inter temporal first order condition a generalized euler equation for the government and we use it both to gain insight into the nature of the equilibrium and as a basis for computations for a calibrated economy we find that when the only tax base available to the government is capital income an inelastic source of funds at any point in time the government still refrains from taxing at confiscatory rates we also find that when the only tax base is labour income the markov equilibrium features less public expenditure and lower tax rates than the ramsey equilibrium

politics and efficiency of separating capital and ordinary government budgets we analyze a golden rule that separates capital and ordinary account budgets and allows a government to finance only capital items with debt many national governments followed this rule in the eighteenth and nineteenth centuries and most u s states do today we study an overlapping generations economy where majorities choose durable and nondurable public goods in each period when demographics imply even moderate departures from ricardian equivalence the golden rule substantially improves efficiency examples calibrated to u s demographics show greater improvements at the state level or with nineteenth century demographics than under current national demographics

moral hazard and private monitoring we clarify the role of mixed strategies and public randomization sunspots in sustaining near efficient outcomes in repeated games with private monitoring we study a finitely repeated game where the stage game has multiple equilibria and show that mixed strategies can support partial cooperation but cannot approximate full cooperation even if monitoring is almost perfect efficiency requires extensive form correlation where strategies can condition upon a sunspot at the end of each period for any finite number of repetitions we approximate the best equilibrium payoff under perfect monitoring assuming that monitoring is sufficiently accurate and sunspots are available journal of economic literature classification numbers c73 d82

when should we worry about inflation at what level should inflation be a concern from a growth perspective high and rising levels of inflation as in 2006 2008 raise concerns that inflation if uncontained can undermine growth on the other hand higher levels of inflation can create more space for using monetary policy to reduce nominal and real interest rates during financial crises a nonlinear growth regression for 165 countries over 1960 2007 shows that for developing countries inflation above 10 percent quickly hurts growth for advanced economies there is no specific threshold in the medium term higher inflation hurts growth for any initial level of inflation suggesting that there is a real cost to maintaining higher inflation as a buffer

communication in repeated games with private monitoring abstract the paper considers repeated games where each player can be observed by only a subset of the other players and where players can make public announcements about the behavior of the players they observed we address the following question what is the minimal level of observability that is required to obtain efficient outcomes the main result is that the limit set of sequential equilibrium payoffs when the discount factor tends to one contains the set of individual rational payoffs whenever each player is observed by at leasttwoother players journal of economic literatureclassification number c73

optimal monetary policy responses to relative price changes abstract an optimizing model with a flexible price sector and a sticky price sector is presented to analyze the effects of relative price changes on inflation fluctuations the relative price of the flexible price good represents a shift parameter of the new keynesian phillips curve the optimal monetary policy is to target sticky price inflation rather than a broad inflation measure although stabilizing the relative price around its efficient value is one of the appropriate goals of the central bank stabilizing sticky price inflation is sufficient for achieving this goal an optimal monetary policy for a small open economy is also discussed

capital budgets borrowing rules and state capital spending abstract this paper compares the level and composition of government spending in u s states that maintain separate budgets for capital and operating expenditures with that in states that employ unified budgets it also investigates the effects of pay as you go financing rules for capital projects the empirical findings suggest that states with separate capital budgets spend more on public capital projects than comparable states with unified budgets there is no evidence that the presence or absence of a capital budget affects the level of non capital spending pay as you go requirements for financing capital projects are associated with lower levels of both capital and non capital spending

ten commandments for a fiscal rule in the e m u abstract fiscal rules in a monetary union should 1 be simple 2 ensure the solvency of the state 3 relate to the consolidated general government and central bank 4 be neutral as regards the size of the public sector 5 avoid pro cyclical behaviour of the fiscal policy instruments 6 make sense also in the long run 7 allow for important differences in economic structure and initial conditions 8 aggregate into behaviour that makes sense at the level of the union as a whole 9 be credible and 10 be enforced impartially and consistently the paper reviews the rules of the stability and growth pact the uk s golden rule and sustainable investment rule and buiter and grafe s permanent balance rule and enhanced permanent balance rule from the perspective of how well they meet these 10 criteria key words fiscal rules stability and growth pact golden rule financial sustainability journal of economic literature classification system e61 e62 e63 f33 f42 h62 h87 e32 e42 willem h buiter european bank for reconstruction and development one exchange square london ec2a 2jn united kingdom tel 44 0 20 7336 6805 fax 44 0 20 7338 6110 1 e mail buiterw ebrd com office e mail willembuiter whsmithnet co uk home www http www nber org wbuiter

state responses to fiscal crises the effects of budgetary institutions and politics this paper explores the dynamics of state taxes and spending during the late 1980s when regional economic downturns and increased expenditure demands led to substantial state budget deficits more restrictive state fiscal institutions such as no deficit carryover rules and tax and expenditure limitations are correlated with more rapid fiscal adjustment to unexpected deficits political factors are also important when a single party controls the state house and the governorship deficit adjustment is much faster than when party control is divided in gubernatorial election years tax increases and spending cuts are both significantly smaller than at other times

public infrastructure investment output dynamics and balanced budget fiscal rules abstract we study the dynamic macroeconomic effects of public infrastructure investment under a balanced budget fiscal rule using an overlapping generations model of a small open economy the government finances public investment by employing distortionary labor taxes the balanced budget rule implies a negative short run output multiplier that exceeds in absolute terms the positive long run output multiplier larger public capital spillovers sharpen the intertemporal output tradeoff in contrast to conventional results regarding public investment shocks we obtain dampened cyclical responses for plausible parameter values the cyclical dynamics arise from the interaction between the labor tax rate the tax base and the intergenerational spillover effects we show that financing scenarios involving public debt creation can substantially reduce the short run output contraction and the transitional macroeconomic fluctuations induced by public investment

neuroeconomic foundations of trust and social preferences initial evidence neuroeconomics merges methods from neuroscience and economics to better understand how the human brain generates decisions in economic and social contexts neuroeconomics is part of the general quest for microfoundations in this case the microfoundation of individual decision making in social contexts the economic model of individual decision making is based on three concepts the action set preferences and beliefs economists assume that an individual will choose his preferred action for a given set of available actions and a given belief about the states of the world and the other players actions neuroeconomics provides a microfoundation for individual beliefs preferences and behavior it does so by examining the brain processes associated with the formation of beliefs the perception of the action set and the actual choice moreover since the set of available actions can be framed in different ways and different frames of the same action set sometimes elicit different behaviors neuroeconomics may also contribute to a deeper understanding of framing effects this paper discusses recent neuroeconomic evidence related to other regarding nonselfish behaviors and the decision to trust in other people s nonselfish behavior as we will show this evidence supports the view that people derive nonpecuniary utility i from mutual cooperation in social dilemma sd games and ii from punishing unfair behavior in these games thus mutual cooperation that takes place despite strong free riding incentives and the punishment of free riders in sd games is not irrational but better understood as rational behavior of people with corresponding social preferences finally we report the results of a recent study that examines the impact of the neuropeptide oxytocin ot on trusting and trustworthy behavior in a sequential sd animal studies have identified ot as a hormone that induces

fiscal news state budget rules and tax exempt bond yields abstract this paper investigates how state fiscal institutions such as balanced budget rules and restrictions on state debt issuance mediate the bond market reaction to state fiscal news we analyze data on the yields of bonds issued by different states as reported in the chubb relative value survey along with data on state budget forecasts for the period 1988 1998 we find that unexpected deficits are correlated with higher state bond yields this effect is smaller for states with tight antideficit rules than for states without these fiscal rules unexpected deficits have a particularly large effect in raising bond yields of states with tax limits these results suggest that bond market participants view fiscal institutions as relevant in assessing the risk characteristics of tax exempt bonds and that the economic significance of these institutions depends on the state s economic and fiscal circumstances

the intergenerational state education and pensions allocation is inefficient when generations overlap this failure can be mitigated by properly designed social arrangements we show that public financing of education and public pensions can be designed to implement an intergenerational transfer scheme supporting the complete market allocation neither the public financing of education nor the pension scheme we consider resemble standard ones in our mechanism via the public education system the young borrow from the middle aged to invest in human capital they pay back the debt via a social security tax the proceedings of which finance pension payments when the complete market allocation is achieved the rate of return implicit in this borrowinglending scheme should equal the market rate of return

optimal taxation without state contingent debt in an economy studied by lucas and stokey tax rates inherit the serial correlation structure of government expenditures belying barro s earlier result that taxes should be a random walk for any stochastic process of government expenditures to recover a version of barro s random walk tax smoothing outcome we modify lucas and stokey s economy to permit only risk free debt having only risk free debt confronts the ramsey planner with additional constraints on equilibrium allocations beyond one imposed by lucas and stokey s assumption of complete markets the ramsey outcome blends features of barro s model with lucas and stokey s in our model the contemporaneous effects of exogenous government expenditures on the government deficit and taxes resemble those in lucas and stokey s model but incomplete markets put a near unit root component into government debt and taxes an outcome like barro s however we show that without ad hoc limits on the government s asset holdings outcomes can diverge in importa

growth friendly fiscal rules safeguarding public investment from budget cuts through fiscal rule design abstract we study patterns of public investment behavior during fiscal consolidations in seventy five advanced and emerging economies during 1990 2018 and find that results differ significantly depending on fiscal rule design fiscal rules can be flexible meaning that they include mechanisms to accommodate exogenous shocks e g cyclically adjusted fiscal targets well defined escape clauses and differential treatment of investment expenditures or rigid meaning they establish numerical limits on fiscal targets without taking into account flexible features we find that in countries with either no fiscal rule or with a rigid fiscal rule a fiscal consolidation of at least 2 percent of gdp is associated with an average 10 percent reduction in public investment instead in countries with flexible fiscal rules the negative effect of fiscal adjustments on public investment vanishes which implies that flexible rules protect public investment during consolidation episodes the corollary is that the design of fiscal rules can add a growth friendliness dimension to the fiscal sustainability objective that has typically been the focus of fiscal rules in the past provided public investment is productive

taxation and the tiebout model the differential effects of head taxes taxes on land rents and property taxes on the theory of state and local public finance is the seminal paper by charles tiebout 1956 tiebout constructed a multijurisdictional model in which independent local governments offer a wide variety of expenditure and tax policies and perfectly mobile consumers reveal their preferences for local public goods through their choice of residential community he argued that under such circumstances local public service provision would be efficient the tiebout model has formed the basis of a vast number of subsequent articles in the state and local public finance literature and has also been very influential in urban and regional economics the efficiency properties of various tiebout type models of local public good provision have been examined and the role of politics in these models has been debated at length in this literature of more direct relevance to this paper however is the fact that although tiebout had little to say directly about taxation simply assuming the existence of head taxes subsequent analyses have used adaptations of this model to examine the effects of local head taxes land taxes and property taxes it is the literature on the efficiency and distributional effects of alternative local taxes that is the subject of this survey 1

equilibrium political budget cycles political business cycle theories generally rely on nominal rigidities and voter myopia this paper offers an equilibrium theory that preserves some basic insights from earlier models though with significant refinements the political budget cycle emphasized here is in fiscal policy rather than output and inflation it arises via a multidimensional signal process one can consider the welfare implications of proposals to mitigate the cycle and the effects of altering the electoral structure copyright 1990 by american economic association

changing the price of pork the impact of local cost sharing on legislators demands for distributive public goods abstract the provision of public services through national legislatures gives legislators the chance to fund locally beneficial public projects using a shared national tax base nationally financed and provided local congestible public goods will be purchased at a subsidized price below marginal cost and may be inefficiently too large as a consequence an important assumption behind this inefficiency is that national legislators in fact demand more of the locally beneficial project as the local price for projects declines this paper provides the first direct test of this important assumption using legislators project choices following the passage of the water resources development act of 1986 wrda 86 we find legislators chosen water project sizes do fall as the local cost share rises with a price elasticity of demand ranging from 0 81 for flood control and shoreline protection projects to 2 55 for large navigation projects the requirement of wrda 86 that local taxpayers contribute a greater share to the funding of local water projects reduced overall proposed project spending in our sample by 35 and the federal outlay for proposed project spending by 48

ageing government budgets retirement and growth we analyze the short and long run effects of demographic ageing increased longevity and reduced fertility on per capita growth the olg model captures direct effects working through adjustments in the savings rate labor supply and capital deepening and indirect effects working through changes of taxes government spending components and the retirement age in politico economic equilibrium growth is driven by capital accumulation and productivity increases fueled by public investment the closed form solutions of the model predict taxation and the retirement age in oecd economies to increase in response to demographic ageing and per capita growth to accelerate if the retirement age were held constant the growth rate in politico economic equilibrium would essentially remain unchanged due to a surge of social security transfers and crowding out of public investment

on failing to cooperate when monitoring is private abstract i consider a repeated prisoners dilemma where in each period each player receives an imperfect private signal about his opponent s current action i show that when players are patient enough any equilibrium where players use trigger strategies i e do not revert to cooperation once they have started defecting yields players a value arbitrarily close to the mutual minimax i also examine the robustness of the result to perturbations of the game journal of economic literature classification numbers c72

voting on the budget deficit comment textabstractin this comment it is argued that a balanced budget rule may cause underinvestment as a consequence such a rule is not ex ante efficient in order to achieve the ex ante optimal outcome it would be necessary to add an extra rule for the level of public investment unfortunately however such an investment rule is likely to be very difficult to implement in practice when there are no rules to prevent underinvestment it is no longer clear whether a balanced budget rule is beneficial or not in some cases the cost of low levels of investment outweigh the benefits of a balanced budget

a positive theory of fiscal deficits and government debt this paper considers an economy in which policymakers with different preferences alternate in office as a result of elections government debt is used strategically by each policymaker to influence the choices of his successors if different policymakers disagree about the desired composition of government spending between two public goods the economy exhibits a deficits bias that is debt accumulation is higher than it would be with a social planner the equilibrium level of debt is larger the larger is the degree of polarization between alternating governments and the less likely it is that the current government will be re elected

public private partnerships and government spending limits abstract we consider public private partnerships in which a public official selects a project that is then developed and operated by a private contractor we derive optimal public accounting rules when the official s choice among projects is biased by ideology or social ties or because of pandering to special interests we give particular emphasis to how the rules should constrain the official s incentive to understate the costs of her pet projects in the basic model we show that the optimal accounting rule takes the form of a budget cap with a project s expected cost modified to reflect the official s distortionary incentives if the project can be partially financed privately then fixed price contracts can serve to curb political misbehavior by securitizing public sector liabilities we also consider the possibility that development and operations are each handled by different contractors such unbundling deprives public accountants of forward information about future costs but can prevent the official from funneling hidden future rents to contractors

optimal fiscal and monetary policy in an economy without capital abstract this paper is concerned with the structure and time consistency of optimal fiscal and monetary policy in an economy without capital in a dynamic context optimal taxation means distributing tax distortions over time in a welfare maximizing way for a barter economy our main finding is that with debt commitments of sufficiently rich maturity structure an optimal policy if one exists is time consistent in a monetary economy the idea of optimal taxation must be broadened to include an inflation tax and we find that time consistency does not carry over an optimal inflation tax requires commitment by rules in a sense that has no counterpart in the dynamic theory of ordinary excise taxes the reason time consistency fails in a monetary economy is that nominal assets should from a welfare maximizing point of view always be taxed away via an immediate inflation in a kind of capital levy this emerges as a new possibility when money is introduced into an economy without capital

communication in repeated games with imperfect private monitoring this paper examines repeated games in which each player observes a private and imperfect signal on the actions played and in which players are allowed to communicate using public messages providing incentives for players to reveal their observations generates revelation constraints that combined with signal imperfections may be a source of inefficiencies however by delaying the revelation of their observations players may economize on the cost of deterring deviations and thereby avoid these inefficiencies because a player would not want to trigger a sanction that would penalize him too revelation constraints also tend to make sanctions difficult to enforce however with at least three players detecting deviations may not require that all the players reveal their observations in that case we obtain a nash threat version of the folk theorem with two players we do not obtain a similar result nevertheless we show that an efficient outcome can almost always be approximated

world food prices and monetary policy abstract how should monetary policy respond to large fluctuations in world food prices we study this question in an open economy model in which imported food has a larger weight in domestic consumption than abroad and international risk sharing can be imperfect a key novelty is that the real exchange rate and the terms of trade can move in opposite directions in response to world food price shocks this exacerbates the policy trade off between stabilizing output prices vis a vis the real exchange rate to an extent that depends on risk sharing and the price elasticity of exports we characterize implications for dynamics optimal monetary policy and the relative performance of practical monetary rules while cpi targeting and expected cpi targeting can dominate ppi targeting if international risk sharing is perfect even seemingly mild departures from the latter make ppi targeting a winner

international coordination of fiscal policy in limiting economies we examine the limiting behavior of cooperative and noncooperative fiscal policies as countries market power goes to zero we show that these policies converge if countries raise revenues through lump sum taxation however if there are unremovable domestic distortions such as distorting taxes there can be gains to coordination even when a single country s policy cannot affect world prices these results differ from the received wisdom in the optimal tariff literature the key distinction is that contrary to the tariff literature the spending decisions of governments are explicitly modeled

why a stubborn conservative would run a deficit policy with time inconsistent preferences a conservative government in favor of a low level of public consumption knows that it will be replaced by a government in favor of a larger level of public consumption we show that the resulting level of public consumption is in between the levels the two governments would choose if each were in power both in the present and in the future in particular we show that if the conservative government is more stubborn in a particular sense than the succeeding government the conservative government will borrow more than it would had it remained in power in the future

a dynamic theory of public spending taxation and debt this paper presents a dynamic political economy theory of public spending taxation and debt policy choices are made by a legislature consisting of representatives elected by geographically defined districts the legislature can raise revenues via a distortionary income tax and by borrowing these revenues can be used tofinance a national public good and district specific transfers interpreted as pork barrel spending the value of the public good is stochastic reflecting shocks such as wars or natural disasters in equilibrium policy making cycles between two distinct regimes business as usual in which legislators bargain over the allocation of pork and responsible policy making in which policies maximize the collective good transitions between the two regimes are brought about by shocks in the value of the public good in the long run equilibrium tax rates are too high and too volatile public good provision is too low and debt levels are too high in some environments a balanced budget requirement can improve citizen welfare

on the theory of repeated games with private information part ii revelation through communication abstract we consider repeated games with private information discounting and communication similarly to abreu et al 1986 1987 we characterize supergame equilibrium allocations with truthful revelation in the two player case efficiency cannot be attained with supergame equilibria with truthful revelation

forward and backward intergenerational goods why is social security good for the environment this paper studies the ability of nonmarket institutions to invest optimally in forward intergenerational goods figs such as education and the environment when agents are selfish or exhibit paternalistic altruism we show that backward intergenerational goods bigs such as social security play a crucial role in sustaining investment in figs without them investment is inefficiently low but with them optimal investment is possible we also show that making the provision of bigs mandatory crowds out the voluntary provision of figs and that population aging can increase investment in figs

migration the life cycle and state benefits how low is the bottom i show that among women likely to use welfare movers move to higher benefit states i also find that the probability likely welfare users will move at all is lower in higher benefit states this effect is concentrated early in the life cycle as theory predicts i construct a theoretical framework to measure the impact of welfare migration on optimal state benefits simulation results suggest little impact in higher benefit states but possibly a more substantial impact in other states finally evidence suggests little reason for concern due to welfare migration in using cross state variation in welfare generosity to identify incentive effects of the welfare system on other outcome variables

local public goods debt and migration abstract migration raises a potential free rider problem for the provision of durable local public goods if the latecomers can enjoy the public good without paying for it allowing communities to finance public goods by debt mitigates this problem since future immigrants have to share the burden of the debt however in equilibrium there will be over accumulation of local debt there may be more or less public good than at first best but conditional on the inefficiently high level of debt there will be too few public goods a competitive market for land reduces but does not in general eliminate the inefficiencies

the political economy of fiscal deficits and government production abstract this paper studies how disagreement over which goods government should provide affects resource allocation in the public sector an incumbent combines pre determined capital with labor to produce different goods in the current period and accumulates physical and financial capital for future production capital labor complementarity determines how anticipated political turnover shapes governments choice between saving in physical capital or financial assets turnover tends to render the stock of physical capital for public production too low and inefficiently combined with labor the main cost of political turnover is production inefficiency in the public sector not a suboptimal savings level

how to protect future generations using tax base restrictions this paper studies how to protect future generations from expropriation and to induce optimal investment in intergenerational public goods ipgs by introducing constitutional restrictions on the tax base the type of tax base restrictions that we consider places limits on the tax instruments that the government can use to raise revenue but not on the level of expenditures or debt we show that the introduction of a constitutional amendment requiring that ipgs and debt be financed with land taxes makes intergenerational expropriation impossible and for many cases of interest induces optimal investment in ipgs we also show that a weaker constitutional amendment requiring that ipgs be financed with land taxes but imposing no restrictions on how to finance the debt has a positive impact on ipgs but not on expropriation the paper also studies the political feasibility of these reforms we show that the first reform is not politically feasible since it hurts current generations but the weaker reform can induce a pareto improvement jel d1 d7

collusion in dynamic bertrand oligopoly with correlated private signals and communication abstract this paper studies collusion in repeated bertrand oligopoly when stochastic demand levels for the product of each firm are their private information and are positively correlated it derives general sufficient conditions for efficient collusion through communication and a simple grim trigger strategy this analysis is then applied to a model where the demand signal has multiple random components which respond differently to price deviations in this model it is shown that the above sufficient conditions hold if idiosyncratic noise terms are sufficiently small journal of economic literature classification numbers c72 d82

voting on the budget deficit this paper analyzes a model in which a group of rational individuals votes over the composition and time profile of public spending all voters agree that a balanced budget is ex ante optimal however if there is disagreement between current and future majorities a balanced budget is not a political equilibrium under majority rule under certain conditions a majority of the voters favors a budget deficit and the equilibrium deficit is larger the greater is the polarization among voters copyright 1990 by american economic association

the implications of heterogeneous habit in consumer beverage purchases on soda and sin taxes abstract in this article we study the heterogeneity of habit strength in households demand for regular carbonated sweetened beverages csbs and beer in the united states a demand model that nests a smooth transition function is used to describe habit based consumption patterns revealing heterogeneous strengths of habits among households we find that more habitual consumers those with a strong preference for a particular product are not as sensitive to price or expenditure as the aggregate population this finding is further supported by simulations of the potential effects of soda and beer taxes we find the aggregate response to soda and beer taxes is smaller than when the influence of habit is assumed to be homogeneous

optimal fiscal and monetary policy under sticky prices this paper studies optimal fiscal and monetary policy under sticky product prices the theoretical framework is a stochastic production economy without capital the government finances an exogenous stream of purchases by levying distortionary income taxes printing money and issuing one period nominally risk free bonds the main findings of the paper are first for a miniscule degree of price stickiness i e many times below available empirical estimates the optimal volatility of inflation is near zero this result stands in stark contrast with the high volatility of inflation implied by the ramsey allocation when prices are flexible the finding is in line with a recent body of work on optimal monetary policy under nominal rigidities that ignores the role of optimal fiscal policy second even small deviations from full price flexibility induce near random walk behavior in government debt and tax rates third sluggish price adjustment raises the average nominal interest rate above the one called for by the friedman rule finally an interest rate feedback rule whereby the nominal interest rate depends on inflation and output fits well the data emanating from the ramsey economy however the fitted rule is not of the taylor type for the implied inflation coefficient is less than one and close to zero and the output coefficient is negative jel classification e52 e61 e63

how robust is the folk theorem the folk theorem of repeated games has established that cooperative behavior can be sustained as an equilibrium in repeated settings early papers on private monitoring and a recent paper of cole and kocherlakota games and economic behavior 53 2005 59 72 challenge the robustness of this result by providing examples in which cooperation breaks down when players observe only imperfect private signals about other players actions or when attention is restricted to strategies with finite memory this paper shows that cole and kocherlakota s result is an artefact of a further restriction that they impose we prove that the folk theorem with imperfect public monitoring holds with strategies with finite memory as a corollary we establish that the folk theorem extends to environments in which monitoring is close to public yet private