Ricardian Equivalence - Criticisms

Criticisms

Ricardian equivalence requires assumptions that have been seriously challenged. The perfect capital market hypothesis is often held up for particular criticism because liquidity constraints invalidate the assumed lifetime income hypothesis. International capital markets also complicate the picture.

In 1976, Martin Feldstein argued that Barro ignored economic and population growth. He demonstrated that the creation of public debt depresses savings in a growing economy.

In that same year, James M. Buchanan also faulted Barro's model, noting that "his is an age-old question in public finance theory", one already mooted by Ricardo and elaborated upon by De Viti. In particular, he criticized Barro for:

1. failing to compare the differential impacts of taxation and debt issue;
2. "superimposing" an issue of public debt without offsetting or compensating changes;
3. erring in assuming the equivalence of the "helicopter drop" to currently old households and the sale of bonds on a competitive capital market, with the proceeds of this sale used to effect a lump-sum transfer to generation 1 household;
4. not providing empirical evidence about the full discount of future taxes;
5. not considering that, under his hypothesis, there should be roughly indifferent public reactions to a fully funded and to an unfunded pension system;
6. not considering the political consequences of the equivalence.

In 1977, Gerald P. O'Driscoll opined that Ricardo, in expanding his treatment of this subject for an Encyclopædia Britannica article, changed so many features of it as to result in a Ricardian Nonequivalence Theorem.

In 2009, Paul Krugman ignited a debate among notable blogging economists and financial journalists when he grouped Barro with "first-rate economists keep making truly boneheaded arguments against ".