Optimal Public Debt with Life Cycle Motives

This paper determines optimal public debt in a life cycle model with incomplete markets that matches the empirically observed variation consumption, labor, and savings. We find savings—not debt—equal to 168 percent of output is optimal, primarily due influence on household decision-making. By inducing lower interest rate, savings slow consumption leisure growth over an average household’s lifetime, resulting flatter allocation lifetime improves welfare. These welfare benefits are large—on net, they outweigh transitional costs from tax-financed elimination. (JEL D15, D52, E21, E43, E62, G51, H63)