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Unique Implementation of Permanent Primary Deficits?

Author

Listed:
  • Amol Amol
  • Erzo G. J. Luttmer

Abstract

In an economy with incomplete markets and consumers who are sufficiently risk averse, we show that the government can uniquely implement a permanent primary deficit using nominal debt and continuous Markov strategies for primary deficits and payments to debtholders. But this result fails if there are also useless pieces of paper (bitcoin for short) that can be traded. If there is trade in bitcoin, then there is no continuous Markov strategy for the government that leads to unique implementation. Instead, there is a continuum of equilibria with distinct real allocations in which the price of bitcoin converges to zero. And there is a balanced budget trap: continuous government policies designed for a permanent primary deficit cannot eliminate an alternative steady state in which r - g = 0 and the government is forced to balance its budget. A legal prohibition against bitcoin can restore unique implementation of permanent primary deficits, and so can a tax on bitcoin at the rate -(r - g) > 0.

Suggested Citation

  • Amol Amol & Erzo G. J. Luttmer, 2024. "Unique Implementation of Permanent Primary Deficits?," Working Papers 807, Federal Reserve Bank of Minneapolis.
    • Handle: RePEc:fip:fedmwp:98987
    DOI: 10.21034/wp.807
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    More about this item

    Keywords

    Fiscal policy; Primary deficits; Fiscal theory of the price level; Price level determinacy;
    All these keywords.

    JEL classification:

    • E60 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - General
    • H60 - Public Economics - - National Budget, Deficit, and Debt - - - General
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation

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