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The distortionary fiscal cost of the ‘bailout'

Subject

Finance

Publishing details

IFA Working Paper

Authors / Editors

Gomes F;Michaelides A;Polkovnichenko C

Biographies

Publication Year

2010

Abstract

We utilize an overlapping generations model with endogenous production and incomplete markets to quantify the distortionary costs associated with financing the increase in government expenditures directed to investments in the private sector in 2008 and 2009 (a.k.a. ‘the bailout’), and its differential impact on different groups of the population (in the U.S.A.). In our baseline calibration, this distortion corresponds to a loss of approximately $300 billion dollars in total household consumption. This number is very robust to assumptions about the net benefits of the bailout itself. For plausible alternative assumptions regarding both the expected and actual duration of this increase in expenditures, or the willingness of foreign institutions and/or investors in absorbing additional government debt, this number can increase to $800 billion. We find that the cost falls more dramatically on those households which are either older and/or wealthier. Retirees face approximately 50% of the cost, as younger agents are more likely to still be alive when the economy has returned to its steady-state. Across wealth groups, the top 25% of the wealth distribution bears almost two thirds of the cost.

Keywords

Government Debt; Fiscal Policy; Tax Distortions; Bailout; Incomplete Financial Markets

Series

IFA Working Paper

Available on ECCH

No


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