Deficit-financed spending may not stimulate, if households save against the future taxes it implies.
Barro's 1974 revival of Ricardo, who proposed and rejected it. Empirical support is weak — households do not appear to offset deficits fully — but the direction of the effect is measurable.
In practice
- A government borrows to fund a rebate, and households save a fifth of it against the taxes they expect, rather than all of it or none.
- The direction is measurable and the magnitude is not one-for-one, which is why the strong version is a theoretical benchmark rather than a forecast.
- Possible explanations
- The explanation is foresight: a household that understands a deficit as deferred taxation saves to meet the future bill, offsetting the stimulus.
- In its favour
- The direction is measurable, since some private saving does rise with public deficits, and the argument disciplined loose claims about deficit-financed spending.
- Against it
- It requires foresight, bequest motives and access to credit that are rarely all present, and studies find only partial offset, with households that cannot borrow spending most of what they receive.
- Standing
- Requires assumptions about foresight, bequests and credit access that are rarely met, and studies find only partial offset.
- Further reading
- Wikipedia
- Subject
- Economics & Incentives
- Essay
- The theories behind every argument about money