Another Look at Ricardian Equivalence: The Case of the European Union

The so-called Ricardian equivalence suggests that a government will have the same effect on private spending whether it raises taxes or takes on additional debt to finance higher government spending. The logic behind it is that as the government gets more indebted, people would put aside more money in expectation of higher taxes in the future. However, there is no consensus on the empirical validity of Ricardian equivalence (see Seater 1993 for a comprehensive review).

However, an obvious corollary of the Ricardian equivalence is that the countries with more government debt should also be the ones with higher accumulated savings by households. A look at the situation in the EU15 countries before the Great Recession provides some empirical support to this statement. We have compared the government debt burdens and the net financial assets of households in the EU15 countries other than Luxembourg in 2007, the last year for which full data on household financial assets is available from Eurostat. To arrive at a proxy for household NFAs we subtracted the household loan stock at the end of 2007 as per the OECD statistics database from the households’ stock of financial assets* as a percentage of GDP as calculated by Eurostat. According to Eurostat (2009), loans represent above 90% of household financial liabilities in most EU countries.

At first glance the correlation between the government debt-to-GDP ratio and the ratio of household net financial assets to GDP appeared to be rather weak, as shown in the chart below.


However, there is one clear outlier in the data set: Greece. Not only did it have the highest debt-to-GDP ratio among the EU15 countries, it was also the only country where government debt exceeded household net financial assets in 2007. As we know now, it was also the only country that defaulted on its government debt in the aftermath of the financial crisis, although Portugal and Ireland also required bailouts and Spain needed help to prop up its ailing banking sector. Excluding Greece from our analysis, we get a much stronger correlation with an R-squared of 0.53.

Finally, excluding the UK, which is the other outlier, we get a strong correlation between government debt burdens and net financial assets accumulated by households for the remaining 12 EU15 countries with an R squared value of 0.70.

We can thus observe that before the financial crisis hit, the countries with the highest government-debt burden were in most cases also the ones with the highest household net financial assets to GDP. The chart above also serves to debunk the still popular myth about the ‘rich Germans and poor southern Europeans’. As one can see from the above chart, measured by net financial assets to GDP, Italian households were considerably wealthier than German households in 2007, and both France and Portugal were at about the level of Germany while Spain was not far behind.

According to our estimates, at the end of 2007 the average Italian held about €53,000 worth of net financial assets while the corresponding amount owned by the average German was €37,000. The net financial assets per inhabitant in France, Spain and Portugal in 2007 were, respectively, €42,000, €23,000 and €21,000 respectively, the figures for Spain and Portugal thus below those for Germany. These figures refer to stocks of assets, not income per capita, and they are not adjusted for purchasing power parity.

Ricardo himself actually doubted whether most people were seeing the link between more debt today and higher taxes in the future. In his Essay on the Funding System he stated that if the interest agreed upon was 5%, “20 millions in one payment [or] 1 million per annum for ever … are precisely of the same value; but the people who pay the taxes never so estimate them, and therefore do not manage their private affairs accordingly” (Ricardo 1888). However, we can look at the Ricardian equivalence from a different perspective and hypothesise that higher government indebtedness just allows people in the respective country to accumulate more savings. Either way, we see empirical support for the claim that higher government debt goes together with larger net financial assets accumulated by people in the respective country.


The above findings have important implications for any suggestions to share legacy government debt burdens in the EU. As higher government-debt burdens have apparently let households in the respective countries accumulate larger financial wealth, any pooling of legacy debt would be considered unacceptable by the countries with less government debt unless it also involved pooling of the financial assets of households. The latter would probably face insurmountable legal and technical obstacles, though. Thus, the only way forward in the EU appears to be that of a forced Ricardian equivalence – the countries with the largest legacy-debt burdens in the EU will have to reduce them by increasing the tax burden on their households or, alternatively, reducing budget expenditure or raising revenue from privatisation of public assets.

*Households’ stock of financial assets include currency and deposits, shares and other equity, securities other than shares, insurance technical reserves (which correspond to households’ assets in life insurance and funded pension schemes), loans granted and other accounts receivable.


Eurostat (2009), “Financial Assets and Liabilities of Households in the European Union”, Statistics in focus, 32/2009.

Ricardo, David (1888), “Essay on the Funding System” in by McCulloch, J R (ed.) The Works of David Ricardo, With a Notice of the Life and Writings of the Author, London, John Murray.

Seater, John J (1993), “Ricardian Equivalence”, Journal of Economic Literature, Vol XXXI, March, 142-190.

This piece is cross-posted from with permission