Another look at Ricardian equivalence: The case of the European Union
Thomas Grennes, Andris Strazds 28 February 2013
Can European countries share their debts? This column argues that higher government indebtedness means larger household net financial assets. Thus, any pooling of European legacy debt would be considered unacceptable by countries with less government debt unless it also involved the pooling of households’ financial assets. Yet, this would be legally and technically insurmountable. The EU must face forced Ricardian equivalence: the countries with the largest legacy-debt burdens must reduce them by increasing the tax burden or, alternatively, reduce their budget expenditure.
The so-called Ricardian equivalence suggests that a government will have the same effect on private spending whether it raises taxes or takes on additional debt to finance higher government spending. The logic behind it is that as the government gets more indebted, people would put aside more money in expectation of higher taxes in the future. However, there is no consensus on the empirical validity of Ricardian equivalence (see Seater 1993 for a comprehensive review).
Europe's nations and regions
Germany, Spain, UK, Greece, Eurozone crisis, Ricardian equivalence