Fiscal Policy and the Distribution of Consumption Risk

Recent fiscal interventions have raised concerns about US public debt, future fiscal pressure, and long-run economic growth. This paper studies fiscal policy design in an economy in which: (i) the household has recursive preferences and is averse to both shortand long-run uncertainty, and (ii) growth is endogenously sustained through innovations whose market value is sensitive to the tax system. By reallocating tax distortions through debt, fiscal policy alters the composition of intertemporal consumption risk and the incentives to innovate, ultimately affecting long-term growth. When the price of long-run uncertainty is calibrated to match the consumption risk premium, we find that countercyclical tax policies promoting short-run stabilization substantially increase long-run fiscal uncertainty and reduce welfare.