Economics Dictionary of ArgumentsHome
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| Ricardian equivalence: Ricardian equivalence is the economic theory that government borrowing has the same effect on the economy as taxation. It suggests that when a government runs a deficit, individuals anticipate future taxes to repay the debt and therefore increase savings, offsetting the stimulus effect of the deficit. See also Taxation, Saving, Debt, Government debts._____________Annotation: The above characterizations of concepts are neither definitions nor exhausting presentations of problems related to them. Instead, they are intended to give a short introduction to the contributions below. – Lexicon of Arguments. | |||
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James M. Buchanan on Ricardian Equivalence - Dictionary of Arguments
Boudreaux I 26 Ricardian Equivalence/Buchanan/Boudreaux/Holcombe: Ricardian equivalence, a concept based on the work of David Ricardo (1772- 1823), is the idea that there is effectively no difference between financing government expenditures through taxation or through debt. But while Ricardo explored the argument, he ultimately rejected it. Buchanan also rejected it. His reasoning again shows the merits of taking an individualistic approach to fiscal policy. >Taxation/Buchanan, >Decision-making process/Buchanan. BuchananVsRicardian Equivalence: The non-equivalence argument, which Buchanan defended, is that if people’s taxes are reduced and government spending is instead financed by debt, people will spend at least some of the additional disposable income they receive from lower taxes on consumption goods today. Therefore, financing through debt rather than through taxes shifts resources toward more consumption spending. Boudreaux I 27 Taxation and debt are not equivalent methods of public finance, because debt financing, unlike tax financing, shifts expenditures toward current consumption. Buchanan’s rejection of Ricardian equivalence does not rest on any assertion that individuals irrationally fail to recognize that increased government indebtedness entails higher future tax burdens. Rather, his individualistic approach to public finance takes account of the fact that the lower taxes that individuals enjoy today (as a result of debt financing of today’s expenditures) are a sure source of additional disposable income today. But these same individuals do not know if they or their heirs will be the particular taxpayers in the future who will have to service the debt. If they or their heirs have low incomes in the future, they will not pay much in taxes and the burden of the debt will therefore be borne by others. Because no one knows when he or she will die or can predict exactly what his or her taxable income will be when the debt must be repaid, the value of a dollar that with certainty is not taxed away today is higher than is the value of a dollar that only might be taxed away tomorrow. Each of today’s citizen-taxpayers is thus made to feel wealthier with debt financing than with tax financing. Each person, in turn, is prompted by debt financing to spend more today on consumption items. In contrast to Buchanan’s individualistic focus, the Ricardian equivalence argument effectively aggregates everyone into a single taxpayer. This aggregate individual would get from debt financing a tax cut today in exchange for higher taxes tomorrow. If such an infinitely lived aggregate individual were real, he or she would rationally save the funds from today’s tax cut in order to pay those future taxes. But the individualistic approach recognizes that there are many distinct taxpayers today and there will be many distinct taxpayers in the future. It is reasonable to expect rational individuals to devote at least some of the money they reap from a tax cut to consumption._____________Explanation of symbols: Roman numerals indicate the source, arabic numerals indicate the page number. The corresponding books are indicated on the right hand side. ((s)…): Comment by the sender of the contribution. Translations: Dictionary of Arguments The note [Concept/Author], [Author1]Vs[Author2] or [Author]Vs[term] resp. "problem:"/"solution:", "old:"/"new:" and "thesis:" is an addition from the Dictionary of Arguments. If a German edition is specified, the page numbers refer to this edition. |
EconBuchan I James M. Buchanan Politics as Public Choice Carmel, IN 2000 Boudreaux I Donald J. Boudreaux Randall G. Holcombe The Essential James Buchanan Vancouver: The Fraser Institute 2021 Boudreaux II Donald J. Boudreaux The Essential Hayek Vancouver: Fraser Institute 2014 |
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