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"Possible Macroeconomic Consequences of Large Future Federal
2011, NBER, Tax Policy and the
Economy, Vol. 25, 89-108.
This paper uses a multicountry macroeconometric model to
analyze possible macroeconomic consequences of large future U.S.
federal government deficits. The analysis has the advantage of
accounting for the endogeneity of the deficit. In the baseline run,
which assumes no large tax increases or spending cuts and no
bad dollar and stock market shocks, the debt/GDP ratio rises
substantially through 2020. The estimates from this run are in line with
other estimates. Various experiments off the baseline run are then done.
If the dollar depreciates, inflation
increases but the effect on the debt/GDP ratio is modest. It does not
appear that the United States can inflate its way out of its debt
problem. If U.S. stock prices fall, this makes matters worse
since output is lower because of a negative wealth effect.
Personal tax increases or transfer payment
decreases of three percent of nominal GDP
solve the debt problem, at a cost of a real output loss of about
1.6 percent over the next decade.
The Fed's ability to offset these losses is modest
according to the model. Introducing a national sales tax is more
contractionary than is increasing personal income taxes or decreasing
Results in this paper can be duplicated using the MCE model on this website.
See Chapter 6 of
The MCE Model Workbook.