Government Debt, Agent Heterogeneity and Wealth Displacement in a Small Open Economy

The consequences of government debt on capital formation, financial wealth and labor are investigated in a small open economy with demographic heterogeneity. Two alternative types of demographics are considered: one with intragenerational heterogeneity of the "savers-spenders" (SS) type, and one with intergenerational heterogeneity of the OLG type. The effects of debt and the financial crowding out morphology strictly depend on the type of demographic heterogeneity. While in the SS economy debt crowds out capital, increases net foreign assets and contracts labor, in the OLG economy it generates the exact opposite results. Our results differ substantially from those observed in a closed economy, where the type of demographic heterogeneity plays no qualitative role for the effects of debt on wealth and factor employment