Government debt management: the long and the short of it
Journal
Review of Economic Studies
Subject
Economics
Publishing details
Authors / Editors
Faraglia E; Marcet A; Oikonomou R; Scott A
Biographies
Publication Year
2019
Abstract
Standard optimal Debt Management (DM) models prescribe a dominant role for long bonds and advocate against issuing short bonds. They require very large positions in order to complete markets and assume each period that governments repurchase all outstanding bonds and reissue (r/r) new ones. These features of DM are inconsistent with US data. We introduce incomplete markets via small transaction costs which serves to make optimal DM more closely resemble the data : r/r are negligible, short bond issuance substantial and persistent and short and long bonds positively co-vary. Intuitively long bonds help smooth taxes over states and short bonds over time. Solving incomplete market models with multiple assets is challenging so a further contribution of this paper is introducing a novel computational method to find global solutions.
Keywords
Bond repurchases; Computational methods; Debt management; Fiscal policy; Incomplete markets; Maturity structure; Tax smoothing
Available on ECCH
No