Introduction Model Economy Calibration Quantitative Experiments Conclusion . Fiscal Reform and Government Debt in Japan: A Neoclassical Perspective . Gary Hansen (UCLA) and Selo ˙ Imrohoro˘ glu (USC) May 10, 2013 . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Table of Contents . . . Introduction 1 . . . Model Economy 2 . . . Calibration 3 . . . Quantitative Experiments 4 . . . Conclusion 5 . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Basic Issue Two significant challenges faced by Japan High debt to output ratio (close to 150%). Projected increase in government expenditures due to aging population. Spending to output projected to rise by 7% due to increases in pension and health spending. We explore size and consequences of fiscal responses to this problem. . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion High Debt 1 0.8 0.6 0.4 0.2 0 1985 1990 1995 2000 2005 2010 Figure : Net Debt to GNP Ratio . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Aging Population 0.9 0.8 0.7 0.6 0.5 0.4 0.3 65+ to 21−64 70+ to 20−69 0.2 2010 2020 2030 2040 2050 2060 2070 2080 2090 2100 Figure : Dependency Ratios . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Implications of Aging Population Fukawa and Sato (2009) G/Y 0.25 0.2 0.15 0.1 1990 2000 2010 2020 2030 2040 2050 2060 2070 2080 TR/Y 0.25 0.2 0.15 0.1 1990 2000 2010 2020 2030 2040 2050 2060 2070 2080 Figure : Government Expenditures to GNP Ratios . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion What We Do Formulate and calibrate neoclassical growth model of Japan. Calculate effects of alternative fiscal policies designed to achieve fiscal balance. How large must tax rates on labor and/or consumption be to achieve this goal? First consider reducing transfers (lump taxes) and then consider distorting taxes. . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion What We Do Hayashi and Prescott (2002) and Chen, ˙ Imrohoro˘ glu and ˙ Imrohoro˘ glu (2006). Economic agents have perfect foresight. Characterize how model performs from 1981-2010. Take as exogenous TFP, tax rates, government consumption, transfers and population. Use observed values 1981-2010. Use model to forecast from 2011 and beyond. Government projections for population to 2050. Forecasts of Fukawa and Sato (2009) of G / Y and TR / Y to 2050. . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Features of Model Government debt is introduced with bond price (interest rate) endogenous. Government bonds enter utility function ⇒ rate of return dominance. Endogenous labor choice ⇒ consumption and labor income taxes are distorting. “Fiscal Sustainability Rule” insures that intertemporal government budget constraint is satisfied. . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Related Literature ˙ Imrohoro˘ glu and Sudo, “Productivity and Fiscal Policy in Japan: Short Term Forecasts from the Standard Growth Model” Experiment with policies to eliminate budget deficit in near future by increasing consumption tax. ˙ Imrohoro˘ glu and Sudo, “Will a Growth Miracle Reduce Debt in Japan” Assess possibility that high TFP growth could eliminate government debt. . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Model: Government Budget G t + TR ∗ t + B t = η t q t B t + 1 + τ c , t C t + τ h , t W t h t + τ k , t ( r t − δ ) K t + τ b , t ( 1 − q t − 1 ) B t . { 1 if B s / Y s ≥ b max for some s ≤ t , ι t = 0 otherwise D t = κι t ( B t − B t ) , TR ∗ t = TR t − D t . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Model: Household’s Problem β t N t [ log C t − α h 1 + 1 / ψ ∞ t ∑ max 1 + 1 / ψ + φ log ( µ t + B t + 1 )] t = 0 subject to ( 1 + τ c , t ) C t + η t K t + 1 + q t η t B t + 1 = ( 1 − τ h , t ) W t h t + [( 1 + ( 1 − τ k , t )( r t − δ )] K t +[ 1 − ( 1 − q t − 1 ) τ b , t ] B t + TR t , . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Model: Firm’s Problem A t ( N t K t ) θ ( N t h t ) 1 − θ = N t Y t = ( 1 − δ ) N t K t + N t X t N t + 1 K t + 1 = γ t A t A t + 1 . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Stationary Equilibrium Conditions Given a per capita variable Z t we obtain its detrended counterpart Z t z t = . A 1 / ( 1 − θ ) t First order conditions and market clearing conditions combine to give 10 equations in 10 unknowns { c t , x t , h t , y t , k t + 1 , b t + 1 , d t , q t , w t , r t } for each period t . Computation Objective: Find value for k 1 such that sequence converges to steady state. . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Population and Labor Input N t = working age population between the ages of 20 and 69 Use actual values for 1981-2010 Use official projections for 2011-2050 Population constant after 2050 h t is employment per working age population multiplied by average weekly hours worked divided by 98 (discretionary hours available per week). . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion National Accounts: Hayashi and Prescott (2002) Table : Adjustments to National Account Measurements C = Private Consumption Expenditures I = Private Gross Investment + Change in Inventories + Net Exports + Net Factor Payments from Abroad G = Government Final Consumption Expenditures + General Government Gross Capital Formation + Government Net Land Purchases − Book Value Depreciation of Government Capital Y = C + I + G . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Government Accounts Public health expenditures in Japan are included in G t . TR t , includes social benefits (other than those in kind, which are in G t ,) that are mostly public pensions, plus other current net transfers minus net indirect taxes. 8.1% of output is added to TR t since modeling of flat tax rates ignores deductions and exemptions. . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Tax Rates τ h , t , are average marginal labor income tax rates estimated by Gunji and Miyazaki (2011). Last value is 0.324 for 2007 and we assume that this remains constant thereafter. τ k , t , is constructed following methodology in Hayashi and Prescott (2002). Last value is 0.3557 for 2010 and we assume that this remains constant thereafter. . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Tax Rates, continued Tax Rate on Consumption, τ c , t 0% 1981-1988 3% 1989-1996 5% 1997-2013 8% 2014 10% 2015 and beyond. Tax Rate on Bond Interest, τ b , 20% for all time periods. . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Tax Rates, continued 0.5 0.45 0.4 0.35 0.3 0.25 0.2 Consumption Tax Rate Labor Income Tax Rate 0.15 Capital Income Tax Rate 0.1 0.05 0 1985 1990 1995 2000 2005 2010 Figure : Tax Rates . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Technology Parameters t h 1 − θ A t = Y t / ( K θ ) . t θ = 0.378, which is the average value from 1981-2010. γ t = A t + 1 / A t , comes from the actual data between 1981 and 2010. γ t = 1.015 1 − θ . for 2011 and beyond. δ = 0.0842, which is the average value from 1981-2010. . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Preference Parameters Five preference parameters, β , α , ψ , φ , and µ . µ = µ t / A 1 / ( 1 − θ ) = 1.1. t ψ = 0.5, the Frisch elasticity of labor supply estimated by Chetty et al (2012). . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Preference Parameters, continued For β , α , and φ , use equilibrium conditions to obtain a value for each year, and then average over the sample: ( 1 + τ c , t + 1 ) γ 1 / ( 1 − θ ) c t + 1 t β t = [ ( )] θ y t + 1 ( 1 + τ c , t ) c t 1 + ( 1 − τ k , t + 1 ) k t + 1 − δ α t = h − 1 / ψ ( 1 − τ h , t )( 1 − θ ) y t t ( 1 + τ c , t ) c t h t q t γ 1 / ( 1 − θ ) [ ] − β t [ 1 − ( 1 − q t ) τ b , t + 1 ] t φ t = η t ( µ + b t + 1 ) . ( 1 + τ c , t ) c t ( 1 + τ c , t + 1 ) c t + 1 . . . . . .
Introduction Model Economy Calibration Quantitative Experiments Conclusion Bond Price Need empirical counterpart to q t : B t + 1 / F t q t = . ( B t + 1 + P t + 1 ) / F t + 1 B t is beginning of period debt. P t is interest payments made in period t . F t is the GNP deflator. . . . . . .
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