On this day in 1772, the economist David Ricardo was born. In Mark Blyth’s book, Austerity: the History of a Dangerous Idea, he does not come off at all well. But why would he? He was writing 200 years ago. The problem with Ricardo and Smith and Locke is not that they have relatively little to tell us about the modern economy; the problem is that there are so many people who want to follow them for ideological reasons.
Let us consider the idea of Ricardian equivalence. It’s an interesting idea. According to it, the government spending money on stimulus won’t work. This is because, according to the theory, the extra money that the government spends will have to be paid off at a later time in extra taxes. The people know this and so reduce their spending by however much the government increases its spending. It’s a very clever idea. It’s also wrong.
Did World War II happen, or not? The military buildup in anticipation of war got the United States out of the depression. So it is a cool idea that if people were perfectly rational computers, extra government spending mightn’t do any good. But we have World War II and countless other examples of how government deficit spending does indeed stimulate the economy.
But let’s just assume for a moment that Ricardian equivalence actually did work. It most certainly wouldn’t work the way that I’ve heard many conservatives claim that it does. Let’s suppose that the government spends $100 to stimulate the economy. According to the theory, the people would reduce their spending by a total of $100. But the $100 that the government spends will be spend right now (or close enough). The extra taxes to pay for that spending will be spread out over many years or even decades. So if we assume that the tax liability will be spread out over a decade, the government would spend $100 that first year and it would be partially offset by reduced private sector spending of $10 — not $100. Thus, there would indeed be a $90 stimulus that year.
So let’s all just admit that David Ricardo was a smart guy. And the people today who think that he was right are total idiots who are ideologically driven to find any justification for their preferred policies — which are to screw the worker and help the rich.
Happy birthday David Ricardo!