Consider a two period OLG model where each young agent recieves an endowment of $w$ units of the single commodity good in the 1st period of his/her life, and nothing in the second period.
Each period the government consumes the fraction $\bar{g}$ of the total endowment. $\bar{g}$ is i.i.d with mean $\bar{g}$. The government's expenditures are financed by lump-sum taxes, money and one-period discount bonds. $M_{t}$ and $B_{t}$ are the supplies of money and nominal bonds at the end of period $t$. The government's budget constraint is then:
$\frac{B_{t-1}}{p_{t}} + \bar{g}w = \tau_{y}(t)+\tau_{o}(t) + \frac{M_{t}-M_{t-1}}{p_{t}} + \frac{B_{t}}{(1+i_{t})p_{t}}$
$\tau_{i}(t)$ is the lump-sum tax where $i$ is either the old or young generation.
My only problem with this budget constraint is the $\frac{B_{t-1}}{p_{t}}$ component. I understand that it is the current real obligation but I don't understand why there is no interest component. I am self-studying OLG models so my reasoning might be flawed but here is how I see this constraint:
The RHS is the government's revenue in period $t$, which consists of tax revenue from the young and the old, seigniorage and new bond issuance. The LHS is the expenditure of the government in period $t$. It can spend the income on consumption ($\bar{g}w$), to pay off the existing debt ( $\frac{B_{t-1}}{p_{t}}$) but what about the interest on the existing debt?
I am used to seeing government constraints in the form of:
$g_{t} + r_{t-1}b_{t-1} = t_{t}+(b_{t}-b_{t-1}) + h_{t} - \frac{h_{t-1}}{1 + \pi _{t}}$
This is almost identical to the author's budget constraint only that it includes an interest component. What am I missing here?
For reference, the budget constraint was obtained from Aiyagari and Gertler (1985)
