{"id":207484,"date":"2025-04-24T17:26:38","date_gmt":"2025-04-24T17:26:38","guid":{"rendered":"https:\/\/learnexams.com\/blog\/?p=207484"},"modified":"2025-04-24T17:26:40","modified_gmt":"2025-04-24T17:26:40","slug":"imagine-an-economy-in-which-ricardian-equivalence-holds","status":"publish","type":"post","link":"https:\/\/www.learnexams.com\/blog\/2025\/04\/24\/imagine-an-economy-in-which-ricardian-equivalence-holds\/","title":{"rendered":"Imagine an economy in which Ricardian equivalence holds"},"content":{"rendered":"\n<p>Imagine an economy in which Ricardian equivalence holds. The economy has a budget of 50, a trade deficit of 20, private savings of 130, and investment of 100. If the budget deficit rises to 70, how are the other terms in the national saving and investment identity affected?<\/p>\n\n\n\n<p><mark style=\"background-color:rgba(0, 0, 0, 0)\" class=\"has-inline-color has-ast-global-color-6-color\"><strong>The correct answer and explanation is :<\/strong><\/mark><\/p>\n\n\n\n<figure class=\"wp-block-image size-large\"><img decoding=\"async\" src=\"https:\/\/sdmntprsouthcentralus.oaiusercontent.com\/files\/00000000-7164-61f7-91f4-89e9287921ad\/raw?se=2025-04-24T18%3A16%3A17Z&amp;sp=r&amp;sv=2024-08-04&amp;sr=b&amp;scid=4a5d82b2-d499-57c1-8a10-8df62ebb8834&amp;skoid=ae70be19-8043-4428-a990-27c58b478304&amp;sktid=a48cca56-e6da-484e-a814-9c849652bcb3&amp;skt=2025-04-24T03%3A27%3A58Z&amp;ske=2025-04-25T03%3A27%3A58Z&amp;sks=b&amp;skv=2024-08-04&amp;sig=J0r%2B3%2BeMNjdNToqF1lZEiBIl0FfOcv6QgXZZz8jn83A%3D\" alt=\"\"\/><\/figure>\n\n\n\n<h3 class=\"wp-block-heading\">Correct Answer:<\/h3>\n\n\n\n<p>If the <strong>budget deficit rises from 50 to 70<\/strong>, and <strong>Ricardian equivalence holds<\/strong>, then <strong>private saving will increase by exactly 20<\/strong>, keeping <strong>national saving<\/strong> unchanged. Therefore:<\/p>\n\n\n\n<ul class=\"wp-block-list\">\n<li><strong>Private Saving<\/strong>: Increases from <strong>130 to 150<\/strong><\/li>\n\n\n\n<li><strong>Investment (I)<\/strong>: Remains <strong>100<\/strong><\/li>\n\n\n\n<li><strong>Trade Deficit (NX &lt; 0)<\/strong>: Remains <strong>20<\/strong><\/li>\n<\/ul>\n\n\n\n<h3 class=\"wp-block-heading\">Explanation (Approx. 300 Words):<\/h3>\n\n\n\n<p>The national saving and investment identity in an open economy is given by:<\/p>\n\n\n\n<p>[<br>\\text{National Saving} = \\text{Investment} + \\text{Net Exports}<br>]<br>[<br>S = I + NX<br>]<\/p>\n\n\n\n<p>Or, rearranged:<\/p>\n\n\n\n<p>[<br>(S_{\\text{private}} + S_{\\text{public}}) = I + NX<br>]<\/p>\n\n\n\n<p>Where:<\/p>\n\n\n\n<ul class=\"wp-block-list\">\n<li>(S_{\\text{private}}) is <strong>private saving<\/strong>.<\/li>\n\n\n\n<li>(S_{\\text{public}} = T &#8211; G) is <strong>public saving<\/strong>, which is the <strong>negative of the budget deficit<\/strong> when (G > T).<\/li>\n\n\n\n<li>(NX) is <strong>net exports<\/strong>, which equals the <strong>negative of the trade deficit<\/strong>.<\/li>\n<\/ul>\n\n\n\n<p>In the initial scenario:<\/p>\n\n\n\n<ul class=\"wp-block-list\">\n<li>Budget deficit = 50 \u2192 (S_{\\text{public}} = -50)<\/li>\n\n\n\n<li>Private saving = 130<\/li>\n\n\n\n<li>Investment = 100<\/li>\n\n\n\n<li>Trade deficit = 20 \u2192 (NX = -20)<\/li>\n<\/ul>\n\n\n\n<p>So:<br>[<br>(130 &#8211; 50) = 80 = 100 + (-20)<br>]<\/p>\n\n\n\n<p>Now, suppose the <strong>budget deficit rises to 70<\/strong> \u2192 (S_{\\text{public}} = -70)<\/p>\n\n\n\n<p><strong>Under Ricardian equivalence<\/strong>, people understand that higher deficits today mean higher taxes tomorrow, so they <strong>increase private saving<\/strong> to offset the future tax burden. Hence:<\/p>\n\n\n\n<ul class=\"wp-block-list\">\n<li>Private saving increases by <strong>exactly 20<\/strong> (from 130 to 150)<\/li>\n\n\n\n<li>National saving remains at <strong>80<\/strong><\/li>\n\n\n\n<li>Investment stays at <strong>100<\/strong><\/li>\n\n\n\n<li>Trade deficit stays at <strong>20<\/strong><\/li>\n<\/ul>\n\n\n\n<p>Rechecking:<br>[<br>(150 &#8211; 70) = 80 = 100 + (-20)<br>]<\/p>\n\n\n\n<p>So, under Ricardian equivalence, <strong>increased government borrowing does not change national saving<\/strong>, investment, or the trade deficit \u2014 because households fully offset the fiscal expansion by saving more.<\/p>\n","protected":false},"excerpt":{"rendered":"<p>Imagine an economy in which Ricardian equivalence holds. The economy has a budget of 50, a trade deficit of 20, private savings of 130, and investment of 100. If the budget deficit rises to 70, how are the other terms in the national saving and investment identity affected? The correct answer and explanation is : [&hellip;]<\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"site-sidebar-layout":"default","site-content-layout":"","ast-site-content-layout":"default","site-content-style":"default","site-sidebar-style":"default","ast-global-header-display":"","ast-banner-title-visibility":"","ast-main-header-display":"","ast-hfb-above-header-display":"","ast-hfb-below-header-display":"","ast-hfb-mobile-header-display":"","site-post-title":"","ast-breadcrumbs-content":"","ast-featured-img":"","footer-sml-layout":"","ast-disable-related-posts":"","theme-transparent-header-meta":"","adv-header-id-meta":"","stick-header-meta":"","header-above-stick-meta":"","header-main-stick-meta":"","header-below-stick-meta":"","astra-migrate-meta-layouts":"default","ast-page-background-enabled":"default","ast-page-background-meta":{"desktop":{"background-color":"","background-image":"","background-repeat":"repeat","background-position":"center center","background-size":"auto","background-attachment":"scroll","background-type":"","background-media":"","overlay-type":"","overlay-color":"","overlay-opacity":"","overlay-gradient":""},"tablet":{"background-color":"","background-image":"","background-repeat":"repeat","background-position":"center center","background-size":"auto","background-attachment":"scroll","background-type":"","background-media":"","overlay-type":"","overlay-color":"","overlay-opacity":"","overlay-gradient":""},"mobile":{"background-color":"","background-image":"","background-repeat":"repeat","background-position":"center center","background-size":"auto","background-attachment":"scroll","background-type":"","background-media":"","overlay-type":"","overlay-color":"","overlay-opacity":"","overlay-gradient":""}},"ast-content-background-meta":{"desktop":{"background-color":"var(--ast-global-color-5)","background-image":"","background-repeat":"repeat","background-position":"center center","background-size":"auto","background-attachment":"scroll","background-type":"","background-media":"","overlay-type":"","overlay-color":"","overlay-opacity":"","overlay-gradient":""},"tablet":{"background-color":"var(--ast-global-color-5)","background-image":"","background-repeat":"repeat","background-position":"center center","background-size":"auto","background-attachment":"scroll","background-type":"","background-media":"","overlay-type":"","overlay-color":"","overlay-opacity":"","overlay-gradient":""},"mobile":{"background-color":"var(--ast-global-color-5)","background-image":"","background-repeat":"repeat","background-position":"center center","background-size":"auto","background-attachment":"scroll","background-type":"","background-media":"","overlay-type":"","overlay-color":"","overlay-opacity":"","overlay-gradient":""}},"footnotes":""},"categories":[25],"tags":[],"class_list":["post-207484","post","type-post","status-publish","format-standard","hentry","category-exams-certification"],"_links":{"self":[{"href":"https:\/\/www.learnexams.com\/blog\/wp-json\/wp\/v2\/posts\/207484","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.learnexams.com\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.learnexams.com\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.learnexams.com\/blog\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/www.learnexams.com\/blog\/wp-json\/wp\/v2\/comments?post=207484"}],"version-history":[{"count":0,"href":"https:\/\/www.learnexams.com\/blog\/wp-json\/wp\/v2\/posts\/207484\/revisions"}],"wp:attachment":[{"href":"https:\/\/www.learnexams.com\/blog\/wp-json\/wp\/v2\/media?parent=207484"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.learnexams.com\/blog\/wp-json\/wp\/v2\/categories?post=207484"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.learnexams.com\/blog\/wp-json\/wp\/v2\/tags?post=207484"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}