Common Stochastic Trends and the Ricardian Equivalence in the OECD

Abstract

The recent ceiling of U.S. federal debt and the European sovereign debt crises raised once again the interest upon balanced government budgets. The Ricardian Equivalence proposition appears as an attractive alternative for policy makers, since postponing taxes to be paid once growth is restored seems a very efficient scheme that relieves public discomfort. This paper attempts to investigate the long-run relationship between public debt and private consumption in order to test for the potential validity of the Ricardian equivalence proposition. We use a wide dataset of fifteen OECD countries using annual and quarterly data for the period 1980-2010. For the empirical estimation we employ both a univariate time series and a panel cointegration approach. Our empirical findings fail to provide empirical evidence in support of the Ricardian equivalence proposition for all countries of the sample, since the assumptions proposed by theory cannot be fulfilled.

Keywords: Ricardian equivalence, private consumption, public debt, VAR, VECM, panel cointegration tests, multivariate Johansen cointegration test

JEL Classification: E19, E21