An empirically plausible model of low real interest rates and unbacked government debt

Abstract

We study the properties of an overlapping generations model with many-period-lived agents, neoclassical production and capital accumulation, labor–leisure decisions, population growth, and technological progress. We demonstrate that a plausibly calibrated version of this model has ‘monetary steady states’ – Samuelson-case steady states with large real stocks of unbacked government debt. These steady states can duplicate a number of important features of US post-war data, including three phenomena that challenge other sorts of calibrated models: the low average real interest rate on US government debt, the government's success in reducing the debt/GDP ratio without running large budget surpluses and the relatively high ratio of net saving to output.