Why Would Ricardian Equivalence Advocates Be Against Higher Taxes?
As I discussed this morning, some conservative economists argue that additional stimulus spending would be ineffective due to the Ricardian equivalence theory, which says that since bigger deficits necessarily mean higher future taxes, the private sector would react by reducing current saving by the same amount as the present value of higher future taxes, which is the same amount as the additional deficit. Simply put, deficit spending is ineffective because it crowds out private spending on a 1:1 basis.
Under the theory, deficit spending generates the exact same result as taxation – a decrease in private sector spending equivalent to the deficit or tax. But run the theory the other way: increasing current taxes to reduce the deficit should have no impact on private spending. And yet, I’ve never seen one of them say that raising taxes would have no impact on the economy.
Either deficit spending is ineffective, or raising taxes wouldn’t hurt. You can’t apply your theory in one case but not the other.