Saturday , September 25 2021

r < g

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r<g is an essay on the question whether r<g means the government can borrow and not worry about repaying debts. No. 

Abstract:

A situation that the rate of return on government bonds r is less than the economy's growth rate g seems to promise that borrowing has no fiscal cost. r<g is irrelevant for the current US fiscal problems. r<g cannot begin to finance current and projected deficits. r<g does not resolve exponentially growing debt. r<g can finance small deficits, but large deficits still need to be repaid by subsequent surpluses. The appearance of explosive present values comes by using perfect-certainty discount formulas with returns drawn from an uncertain world. Present values can be well behaved despite r<g. The r<g opportunity is like the classic strategy of writing put options, which fails in the most painful state of the world.

The essay is based on comments I gave at the spring NBER EFG meeting on Ricardo Reis' "The constraint on public debt when r<g but g<m." My discussion starts here at 4:48,  Ricardo presents the paper (very good, worth listening to, many points I didn't get to) at 4:30 

pdf for now, as translating equations to blogger is taxing. 



John H. Cochrane
In real life I'm a Senior Fellow of the Hoover Institution at Stanford. I was formerly a professor at the University of Chicago Booth School of Business. I'm also an adjunct scholar of the Cato Institute. I'm not really grumpy by the way!

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