Public Debt as a Burden on the Future Generation: A Keynesian Approach

Masayuki Otaki

doi:10.4236/tel.2015.55076

Abstract

By using an overlapping generations (OLG) model in the context of the production economy, this paper shows that public debt lowers the future generation’s well-being even in the situation of imperfect employment equilibrium. According to the dynamically extended multiplier theory, which has a rigorous microeconomic foundation, the effect of the redemption of public debt is equivalent to that of the balanced-budget multiplier because the redemption increases autonomous spending by old generation while the same amount of tax is levied on the young generation. Thus, the aggregate disposable income remains before the issuance since the value of the balanced-budget multiplier is unity. However, it is evident that real GDP before tax reduction increases; it costs more resources to earn the same disposable income. Therefore, it is unavoidable that the issuance of public debt impairs the welfare of future generation even in a Keynesian framework.

Highlights

Almost all advanced countries are concerned by the huge amounts of public debts carried over from the past
Besides the seminal work of Diamond [1], who shows that the segregated sequence of intergenerational economic decisions ends in market failure and that the issuance of public debt prevents the sufficient capital accumulation, other famous studies are rather optimistic about the redemption of public debt despite the aforementioned grievous fact
One of important aims of this study is to examine his assertion critically; that is, whether public debt becomes a burden to future generation when an economy is entrapped by imperfect employment equilibrium

Summary

Introduction

Almost all advanced countries are concerned by the huge amounts of public debts carried over from the past. This paper examines how the issuance and redemption of public debt affect the intergenerational resource allocation and income distribution in a monetary economy by using a dynamically extended multiplier theory developed by Otaki [5]-[7] This theory is characterized by the property that the equilibrium price level sequence is unrelated to the nominal money supply. As far as the rational expectation on the future value of money is stable, current price level becomes endogenously fixed and independent of the level of aggregate demand This property of the theory immediately implies that, without unprecise and arbitrary assumption of menu cost (or staggered pricing rule) associated with the utility function which contains the real cash balance, one can describe the state of imperfect employment as an Pareto-inferior equilibrium.

The Model

The Seriousness of the Problem in Japan

The Importance of Fiscal Discipline

Findings

Concluding Remarks