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Managing the inflation-output trade-off with public debt portfolios

Author

Listed:
  • Charles de Beauffort

    (Economics and Research Department, National Bank of Belgium)

  • Boris Chafwehé

    (Bank of England)

  • Rigas Oikonomou

    (UCLouvain and University of Surrey)

Abstract

When taxes do not sufficiently adjust to government debt levels, the Fiscal Theory of the Price Level predicts that other variables, such as inflation and output gap, must adjust to ensure the solvency of public finances. We study the role of optimal debt maturity portfolios in this context, using a New Keynesian model with both demand and supply-side shocks. Our paper offers new analytical insights into the mechanisms through which debt maturity composition affects the trade-off between inflation and output gap: The Persistence, Discounting and Hedging channels. Our findings, based on a rich prior predictive analysis indicate that the key driving force behind optimal portfolio decisions is the Hedging channel. Moreover, the optimal maturity composition of debt is driven primarily by the supply side shocks, rather than by demand shocks. Finally, our results indicate that optimal debt management is a significant margin to complement monetary policy in stabilizing inflation when debt solvency is an important constraint

Suggested Citation

  • Charles de Beauffort & Boris Chafwehé & Rigas Oikonomou, 2024. "Managing the inflation-output trade-off with public debt portfolios," Working Paper Research 450, National Bank of Belgium.
    • Handle: RePEc:nbb:reswpp:202407-450
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    References listed on IDEAS

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    More about this item

    Keywords

    Monetary and fiscal policy; Government debt management; Fiscal theory.;
    All these keywords.

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General

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