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What really drives public debt

What really drives public debt

Through the Global Crisis, sovereign debt-to-GDP ratios grew substantially when confronted with shocks to growth, increased fiscal deficits, bank recapitalisation costs, and rising borrowing costs. This column talks about how these various shocks connect to one another to exacerbate or mitigate the eventual effect on debt. Selection of monetary policy regime can be an important determinant of how public debt reacts to these shocks.

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Fiscal stimulus in times of high public debt reconsidering multipliers and twin deficits vox, cepr

Fiscal multipliers and twin deficits: How everything fits together

The national income accounting identities reveal that current account equals the gap between total domestic saving and investment. The public-sector deficit measures public dis-saving. The result of the ‘twin deficits’ (government and current account) to a fiscal shock is thus associated with how private saving and investment choice respond to the shock.

Specifically, private agents’ behaviour depend, inter alia, on what fiscal shocks are perceived. These perceptions will normally rely upon the economic environment – especially debt sustainability.