What is necessary for fiscal policy to be sustainable? Why is fiscal policy in countries like Greece, Ireland, Spain, Italy and Portugal not considered sustainable?
What will be an ideal response?
For fiscal policy to be sustainable, the debt-to-GDP ratio must either be constant or declining. If we assume seigniorage is zero and the government's primary deficit is zero, the change in the debt-to-GDP ratio depends on just the real interest rate and the growth rate of real GDP. If the real interest rate is greater than the growth rate of GDP, fiscal policy is not sustainable. If the real interest rate is less than the debt-to-GDP ratio, then fiscal policy is sustainable.
The debt-to-GDP ratio in Greece, Ireland, Spain, Italy, and Portugal is increasing, and therefore fiscal policy in each of these countries is not considered sustainable.
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