Fiscal deficits, international trade and welfare

Abstract

The effects of fiscal deficits on welfare, interest rates and the balance of payments are examined in an open-economy, overlapping-generations model. A deficit reduces welfare of the current old and the domestic unborn. The foreign unborn gain while the current foreign young may gain or lose. Long-term interest rates rise but the current short rate may rise or fall. The home country's current account may be positive or negative in the period of the deficit, but will be negative in the subsequent period. Anticipated future deficits decrease current welfare and decrease short-term interest rates but increase long rates.