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Fiscal Shocks and Fiscal Risk Management

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  • H. Lloyd-Ellis
  • Xiaodong Zhu

Abstract

We use the returns on a set of international financial securities to identify exogenous shocks to the Canadian federal surplus. We find that a large portion of the variation in the surplus can be replicated by a linear combination of these returns and that the rising debt observed in the 1980s and 1990s was a result of adverse exogenous shocks and a delayed response by the government to these shocks. We develop a formal framework to evaluate the potential gains from a fiscal risk management strategy, using these securities to hedge against exogenous shocks. We show that fiscal risk management can generate significant welfare gains by enhancing the sustainability of fiscal policy and thereby lowering average tax rates.

Suggested Citation

  • H. Lloyd-Ellis & Xiaodong Zhu, 1998. "Fiscal Shocks and Fiscal Risk Management," Working Papers lloydell-98-01, University of Toronto, Department of Economics.
    • Handle: RePEc:tor:tecipa:lloydell-98-01
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    Cited by:

    1. Elisa Faraglia & Albert Marcet & Andrew Scott, 2008. "Fiscal Insurance and Debt Management in OECD Economies," Economic Journal, Royal Economic Society, vol. 118(527), pages 363-386, March.
    2. Lloyd-Ellis, Huw & Zhan, Shiqiang & Zhu, Xiaodong, 2005. "Tax Smoothing with Stochastic Interest Rates: A Reassessment of Clinton's Fiscal Legacy," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 37(4), pages 699-724, August.
    3. Melecky, Martin, 2012. "Formulation of public debt management strategies: An empirical study of possible drivers," Economic Systems, Elsevier, vol. 36(2), pages 218-234.
    4. P. R. Lane, 2001. "The National Pensions Reserve Fund: Pitfalls and Opportunities," Trinity Economics Papers 20017, Trinity College Dublin, Department of Economics.
    5. Christos Shiamptanis, 2015. "Risk Assessment Under A Nonlinear Fiscal Policy Rule," Economic Inquiry, Western Economic Association International, vol. 53(3), pages 1539-1555, July.
    6. Adugna Olani, 2016. "Dynamic Capital Inflow Transmission Of Monetary Policy To Emerging Markets," Working Paper 1358, Economics Department, Queen's University.
    7. Marcet, Albert & Scott, Andrew, 2009. "Debt and deficit fluctuations and the structure of bond markets," Journal of Economic Theory, Elsevier, vol. 144(2), pages 473-501, March.
    8. Felipe Santos Tostes & Helder Ferreira De Mendonça, 2016. "Credibility On Pass-Through In Brazil," Anais do XLII Encontro Nacional de Economia [Proceedings of the 42nd Brazilian Economics Meeting] 022, ANPEC - Associação Nacional dos Centros de Pós-Graduação em Economia [Brazilian Association of Graduate Programs in Economics].
    9. Christos Shiamptanis, 2012. "Risk Assessment Under a Non-linear Fiscal Rule," Working Papers 038, Toronto Metropolitan University, Department of Economics.
    10. Helder Mendonça & Felipe Tostes, 2015. "The Effect of Monetary and Fiscal Credibility on Exchange Rate Pass-Through in an Emerging Economy," Open Economies Review, Springer, vol. 26(4), pages 787-816, September.
    11. Feldstein, Martin, 2001. "Economic Problems of Ireland in Europe - incorporating 2 other Papers The Cost and Distribution of Tax Expenditure on Occupational Pensions in Ireland by G Hughes and The National Pensions Reserve Fun," Research Series, Economic and Social Research Institute (ESRI), number GLS31.
    12. repec:wlu:lcerpa:wm0070 is not listed on IDEAS
    13. Huw Lloyd-Ellis & Xiaodong Zhu, 2004. "Using Financial Market Information To Enhance Canadian Fiscal Policy," Working Paper 1041, Economics Department, Queen's University.

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    More about this item

    Keywords

    Fiscal policy; sustainability; asset pricing; risk management.;
    All these keywords.

    JEL classification:

    • E6 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook
    • F3 - International Economics - - International Finance
    • H6 - Public Economics - - National Budget, Deficit, and Debt

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