The Ricardian Equivalence proposition suggests that a tax increase that causes a budget surplus will:
A) decrease in investment.
B) increase in investment.
C) cause a reduction in output.
D) cause an increase in output.
E) cause no change in output.

Question

Quizplus · Accepted Answer

The Ricardian Equivalence proposition suggests that when a tax increase causes a budget surplus, individuals will anticipate that taxes will need to be lowered in the future to pay off the surplus. As a result, they will save more in anticipation of future tax cuts, and thus, the increase in savings will offset the increase in government savings, resulting in no change in output. Therefore, choice E is the correct answer.

The Ricardian Equivalence Proposition Suggests That a Tax Increase That