BEYOND CRISIS ADJUSTMENT: INVESTIGATION OF FISCAL POLICY ALTERNATIVES IN AN OLG MODEL OF ENDOGENOUS GROWTH FOR TURKEY

Ebru VOYVODA (Bilkent University)
Erinç YELDAN (Bilkent University)

The purpose of this paper is to investigate the effects of fiscal policies of domestic debt management and financing of public spending on education, on cohort welfare and growth. We focus on two issues: the increased burden of debt servicing on public funds for investment in human capital formation and the constraining effects of the mode of debt servicing on the economy's capability to generate investment in physical capital. We utilize a model of endogenous growth, in the overlapping generations (OLG) tradition with intertemporally optimizing agents and imperfectly competitive domestic capital markets; roughly reflecting the Turkish economy in 1990s. We illustrate the ruinous effects of bounded human capital investment due to insufficient funds to public education and bounded real production activities due to mode of financing of domestic debt. We then examine the direct and indirect taxation alternatives to mitigate the reductions in the availability of public funds to reproducible factors of production. In the context of the model we employ, the growth path under the alternative scenarios yields similar outcome. However, the welfare effects on both current and future generations are diverse.