The theory of Ricardian equivalence argues that expansionary fiscal policy:
A) will have no effect on the economy because consumers, anticipating higher taxes to pay for government spending, will decrease spending today to save for the higher taxes.
B) is not effective because it causes higher interest rates and crowds out investment spending.
C) is effective, but contractionary fiscal policy is not.
D) is more effective than expansionary monetary policy.

Question

Quizplus · Accepted Answer

Ricardian equivalence theory suggests that consumers are forward-looking and anticipate future tax increases to finance expansionary fiscal policies. As a result, they reduce their spending today to save for the future tax burden, offsetting any stimulative effects of the fiscal policy. Therefore, expansionary fiscal policy may have little to no effect on the economy.

The Theory of Ricardian Equivalence Argues That Expansionary Fiscal Policy