The usual way of doing debt sustainability analysis, as far as I understand, assumes that countries have a long term growth trajectory which they always catch up to, so the pain of consolidation is transient and perfectly reversible over a decade or so. At least the DSA of the European Commission seems to be built this way (based on this model from Bruegel).
On the other hand, we know economic scarring happens: for example, people who lose their jobs in a recession have a risk of remaining long-term unemployed even after the economy recovers, which can be exacerbated by consolidation.
What ways do we have to model such hysteresis effects? (I'm imagining Cobb-Douglas with an extra term or something.)
Does any DSA model used in practice account for such effects?
How can we account for economic scarring (e.g. from austerity) in debt sustainability analyses? Do we have ways to model it?
byu/phenomenal-rhubarb inAskEconomics
Posted by phenomenal-rhubarb