Essays on optimal fiscal policy in a small open economy

This thesis consists of three essays on the conduct of optimal fiscal policy in the context of a stochastic small open economy. In all cases, the model employed to conduct the analysis is characterized by an asymmetry between the government and the representative household with respect to their accessibility to financial markets. In particular, the government is allowed to borrow and lend at a risk-free interest rate, while the household is assumed to have access to complete financial markets.; The first essay discusses the restrictions that need to be placed in the presence of shocks to technology on the specification of the production and utility functions, in order for the optimal tax rate on capital income to be zero in all periods (except the initial one).; The second essay considers an environment similar to that in Aiyagari et al. (2002) for a closed economy, with no capital and stochastic government expenditures. Using the same parameterization as these authors, it is shown that assuming away market completeness with respect to the public sector of the economy only, is sufficient to yield equilibrium outcomes that are consistent with Barro's (1979) "tax smoothing" result.; In the final essay, I utilize the model developed in the previous one, in order to further investigate the effect of lending and borrowing constraints on the government's implemented fiscal policy. It is demonstrated that the transition from a balanced-budget policy regime to one in which the government is allowed to borrow and lend in order to smooth taxes across time generates significant welfare gains. However, these gains diminish as the persistence of the stochastic process for government expenditures increases. Under a particular assumption regarding the determination of asset prices in the model, it is shown that compared to the two previous policy regimes, overall welfare can be improved upon further if the government is allowed to issue state-contingent debt.