Question

Explain the concept of Ricardian equivalence.

Answer 1

Answer : The concept of ricardian model isan economic theory which suggested that government cannot change the demand of the consumer. A Consumer demand is determined by the lifetime present value of his after tax income.

Ricardo Theory shows that affect of government spending increasing or reducing taxes does not affect the demand of the consumer. As the wise consumer can full information about the future and taxes payers takes current and future taxes into an account.

Features :

• Increase in spending of government or reducing taxes has no effect on the demand of the consumer.
• Consumer anticpated that there are lower taxes which will result in higher tax rate in the future time period so its better to save the money rather than spending on the consumpation.
• Present value of consumpation has been determined by the income available after paying all taxes.