# Measuring Inflation - Balanced Budget

Guatemala government has an outstanding debt of $18.23 billion and its GDP is 30% higher than the debt. The nominal interest rate is 5%. The inflation rate is 2%.

a. What is the sustainable deficit ratio if the country is growing at 5%? How about when inflation goes to â?2%?

b.What about if the country grows at 2%? How about when inflation goes to â?7%?

c. Is Guatemala's debt sustainable if the government runs a balanced budget in both a and b.

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#### Solution Preview

For these problems we can use the government budget equation, bt = d + (1+i )/ (1+n) bt-1, where b is the ratio of debt to GDP, d is the ratio of deficit to GDP, i is the nominal interest rate and n is the growth rate of GDP. bt is the debt ratio for the current period, and bt-1 is for the prior period. At the steady state value of b, we find that bt = bt-1 (debt is not changing).

Solving for steady-state value of b an inserting ...

#### Solution Summary

Guatemala's debt and calculation of sustainable deficit levels.