Department Discussion Paper DDP1901 ISSN 1914-2838 HAS THE CANADIAN PUBLIC DEBT BEEN TOO HIGH? A QUANTITATIVE ASSESSMENT Marco Cozzi Department of Economics, University of Victoria Victoria, B.C., Canada V8W 2Y2 April, 2019 (First Draft: March, 2019) Abstract This paper provides a quantitative analysis on whether the historically sizable public debt that the Canadian governments have accumulated might be close to its welfare maximizing level. As the public provision of liquidity to borrowing constrained individuals coupled with an increased supply of safe assets can be welfare improving, I consider a two-region model with an integrated asset market and incomplete insurance markets. The home country features a rich life-cycle setup, where the income dynamics rely on state of the art estimates obtained from previous studies using income tax returns. The main features are ex-ante labor earnings heterogeneity, both in levels and in growth rates, together with persistent and permanent shocks. When the public expenditure is assumed to be wasteful, I find that the optimal quantity of public debt for Canada is negative, meaning that the government should be a net saver. When the government, with a portion of its expenditure and consistent with the Canadian experience, finances valuable public goods, the long-run public debt is still found to be inefficiently large, but closer to the welfare maximizing level. Keywords: Public debt, Incomplete markets, Welfare. JEL Classifications : D52, E21, E62, H63. Author Contact: Marco Cozzi, Dept. of Economics, University of Victoria, P.O. Box 1700, STN CSC, Victoria, B.C., Canada V8W 2Y2; E-mail:
[email protected]; Tel: (250) 721-6535 Has the Canadian Public Debt Been Too High? A Quantitative Assessment Marco Cozzi, University of Victoria April 2019 Abstract This paper provides a quantitative analysis on whether the historically sizable public debt that the Canadian governments have accumulated might be close to its welfare maximizing level.