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Explain what meant by the term Ricardian Equivalence. Does it meant that public debit does not matter Discuss - Essay Example

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Ricardian Equivalence Name Institution Ricardian Equivalence Ricardian equivalence is an economic theory that was developed to equip individuals with pertinent information regarding government spending and management of public debt. The theory indicates that consumers in various settings are continually focusing on budget constraints within their nations…
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Explain what meant by the term Ricardian Equivalence. Does it meant that public debit does not matter Discuss
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Extract of sample "Explain what meant by the term Ricardian Equivalence. Does it meant that public debit does not matter Discuss"

Download file to see previous pages It suggests that debt management systems that a government uses cannot affect the total demand in an economy. As a result, the public will continuously save its excess monetary incentives to cater for the future increase in tax obligation. The theory has been instrumental in several nations including US in the management of economic complications such as inflation. It provides basic incentives and guidelines that enable investors in various economies to embrace the applications. However, it has been exposed to criticism from various scholars and individuals who question credibility. The stakeholders state that the theory is full of suppositions and assumptions but lack factual guidelines. They affirm that it cannot provide factual solutions to the current economic dynamics. The meaning of Ricardian Equivalence, discussion on public debit and its relevance to economist Ricardian equivalence theory holds that consumers in various economic set ups are continuously internalizing their government budget constraints. Economically, the theory has real budget constraints and functions that represent expenditure in various fiscal or economic periods as determined by a government. Normally, the constraints are given in two periods (period1 and 2). They give a credible procedure of how government expenditure is arrived at and how key functions that include interest rate and value of holdings affect expenditure rates. g1 + b1 = (1+r) b0 + t1 and g2 + b2 = (1+r) b1 + t2. As indicated g1 and g2 are key denotations of government spending in both periods while t1 and t2 denote real tax revenue that a government is able to collect within the periods. Consequently, b0, b1 and b2 represent the value of the real asset holdings that a government has at the end of the periods. As usual r represent the real interest rate between the fiscal periods or period one and two respectively. These constrains gives a clear understanding on how government expenditure and allocation of resources is done. It also facilitates the understanding of the contribution of each element in calculating government expenditure. This empowers them to evade the effects of any tax changes that may obstruct their spending competence. Tax variations do not affect demand levels because consumers make adequate preparations to counter the effects of tax increases. The theory suggests that it is no longer an economic issue if an administration finances its costs with debt or tax raise (Ghosh & Ghosh 2008 p. 279). This is recommendable according to the theory because the sources of finance cannot affect the level of demand for various securities and other commodities in a fiscal system. This explains why public debt remains a key source of debt finance. It ensures that consumers are cushioned from the effects of economic hostilities. Indeed, the theory emphasizes the imperativeness of debt financing and increase in taxation in ensuring the achievement of balanced economy. Its development enabled economists to manage the balance of recompense deficit effectively. This is essential in ensuring that a country operates within its limits and strengthens its internal resource enlistment sectors. It also ensures that consumers and investors continuously study how budget is run, and make capital reserve for future tax increases (Ghosh & Ghosh 20 ...Download file to see next pagesRead More
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