Ricardian Equivalence Under Asymmetric Information

25 Pages Posted: 10 Nov 2010

See all articles by Kent A. Smetters

Kent A. Smetters

University of Pennsylvania - Business & Public Policy Department; National Bureau of Economic Research (NBER)

Shinichi Nishiyama

Congressional Budget Office

Date Written: April 9, 2010

Abstract

Several empirical studies have found that extended household units do not appear to be highly altruistically linked, thereby violating the very premise of the Ricardian Equivalence Hypothesis (REH). This finding has a very strong implication for the effectiveness of fiscal policies that change the allocation of resources between generations. We build a two-sided altruistic-linkage model in which private transfers are made in the presence of two types of shocks: an “observable” shock that is public information (for example, a public redistribution like debt or pay-as-you-go social security) and an “unobservable” shock that is private information (for example, individual wage innovations). Parents and children observe each other’s total income but not each other’s effort level. In the second-best solution, unobservable shocks are only partially shared, whereas, for any utility function satisfying a condition derived herein, observable shocks are fully shared. The model, therefore, can generate the low degree of risk sharing found in previous empirical studies, but REH still holds.

Keywords: Market Shocks, Household, Altruism, Optimal, Hazard, Equilibrium, Symetric, Ricardian

Suggested Citation

Smetters, Kent and Nishiyama, Shinichi, Ricardian Equivalence Under Asymmetric Information (April 9, 2010). Pension Research Council Working Paper No. 2010-05, Available at SSRN: https://ssrn.com/abstract=1706214 or http://dx.doi.org/10.2139/ssrn.1706214

Kent Smetters (Contact Author)

University of Pennsylvania - Business & Public Policy Department ( email )

3641 Locust Walk
Philadelphia, PA 19104-6372
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Shinichi Nishiyama

Congressional Budget Office ( email )

Ford House Office Building
2nd & D Streets, SW
Washington, DC 20515-6925
United States

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