Please use this identifier to cite or link to this item: http://hdl.handle.net/10419/89823
Authors: 
Juessen, Falko
Schabert, Andreas
Year of Publication: 
2013
Series/Report no.: 
IZA Discussion Paper 7805
Abstract: 
This paper examines fiscal policy without commitment and the effects of conditional bailout loans. The government relies on distortionary taxation and decides between full debt repayment and costly default. It tends to overborrow due to myopia, which induces default to be a relevant policy option and provides a rationale to constrain sovereign borrowing. We consider a lump-sum financed fund that offers loans at a favorable price and conditional upon minimum primary surpluses. While the government prefers defaulting in the most adverse states, we find that it is willing to accept conditional loans in close-to-default states. These bailouts can lead to an increase in the mean debt price and a lower default probability that are associated with enhanced household welfare. Yet, these outcomes can be reversed when bailouts are too generous, while public debt never decreases in the long-run when bailout loans are available.
Subjects: 
discretionary fiscal policy
overborrowing
sovereign default
bailout loans
conditionality
JEL: 
E32
H21
H63
Document Type: 
Working Paper

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