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Unformatted text preview: hed by compensating changes in
the future. Thus this means that nothing will happen to the left hand side of this equation
(which is consumption) if the government changes taxes.
This could have large Implications for fiscal policy since if it is true it means that giving
tax breaks would not stimulate spending!!! (IF it holds)
Aside ---- remember all this takes place only on the tax side. No changes in government
expenditure accompany the tax changes!!
This result is thus known as Ricardian Equivalence after the classical economist David
There are four reasons why Ricardian Equivalence may NOT hold.
1. If some consumers are taxed differently that others. – suppose the government cuts
taxes. If only SOME consumers have to pay higher taxes in the future period and other do
not – then some of the consumers receiving the tax break will make different
consumption choices, since some consumers will experience a rise in lifetime wealth.
Therefore Ricardian equivalence FAILS if there is differentia...
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- Fall '10