Ricardian equivalencecan be said to hold if:
A)taxation has greater effect on private spending than government borrowing.
B)taxation has a lesser effect on private spending than government borrowing.
C)government borrowing does not affect private consumption while taxation has a negative impact on private consumption.
D)government spending activities financed by taxation and those financed by borrowing have the same effect on private spending.
E)government spending activities financed by taxation and those financed by borrowing have no effect on private spending.

Question

Quizplus · Accepted Answer

Ricardian equivalence suggests that government spending activities financed by taxation and those financed by borrowing have the same effect on private spending. This is because households are forward-looking and understand that even if the government borrows to finance spending today, it will have to be repaid eventually, either through higher taxes or lower government spending in the future. Therefore, they adjust their behavior accordingly, making the effect of government borrowing on private spending similar to that of taxation. This is in contrast to option A, B, and C, which suggest that taxation has a greater or lesser effect on private spending than government borrowing, or that government borrowing has no effect on private consumption. Option E, which suggests that both financing methods have no effect on private spending, is also incorrect as Ricardian equivalence suggests the opposite.

Ricardian Equivalencecan Be Said to Hold If