... in the UK. Any budget deficit must be financed by additional bonds or extra money balances and this government budget constraint can be shown in equation 1 below: Equation 1: CONSOLIDATED GOVERNMENT BUDGET IDENTITY Pt(Gt - Tt) = St - St-1+ Bt - (1+i)Bt-1 where P = price level G = real government expenditure T = real taxation revenues S = stock of high powered money B = nominal debt outstanding i = nominal rate of interest on debt In this case although the government can set all four variables (G,T,S,B), it can not set them all simultaneously. Once three are chosen the remaining variable is fixed by the budget constraint. From equation 1 we can see that the government has an alternative way of financing spending other than explicit taxation or selling government debt to the private sector. It has access to another source of revenue: its right to create money or siegniorage. Thus the government can obtain resources by ...

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