New Evidence on the Private Saving Offset and Ricardian Equivalence

Abstract

The ability of discretionary fiscal policy to affect economic activity following shocks depends on how private agents react. This paper re-investigates the extent of possible offsetting private saving behaviour to fiscal policy changes. The results suggest that the private saving offset is around 40% on average across countries in both the short and the long term, which is somewhat lower than found in prior research. However, the estimates vary considerably across countries. Disaggregate analyses of the budget components shows that changes in current revenues are almost fully offset, whereas offsets to current spending are on average around one third to one half depending on the sample. There is no offset for public investment, making it the most potent policy tool. Saving offsets are stronger the higher the level of government debt consistent with the expectation that snowballing debt may ultimately lead to higher taxation. They are also stronger the better developed financial markets are, pointing to the importance of liquidity constraints for the effectiveness of policy.

Keywords: Ricardian Equivalence, Fiscal Policy, Asset Prices, Private Saving

JEL Classification: C33, E21, H30