Read the case below “An Intergenerational View of Deficits and…

Question Answered step-by-step Read the case below “An Intergenerational View of Deficits and… Read the case below “An Intergenerational View of Deficits and Debt” and answer the question.  An Intergenerational View of Deficits and Debt Harvard economist Robert Barro has developed a model that assumes parents are concerned about the welfare of their children who, in turn, are concerned about the welfare of their children, and so on for generations. Thus, the welfare of all generations is tied together. According to Barro, parents can reduce the burden of the federal debt on future generations. Here’s his argument. When the government runs deficits, it keeps current taxes lower than they would otherwise be, but taxes in the future must increase to service the higher debt. If there is no regard for the welfare of future generations, then the older people get, the more attractive debt becomes relative to current taxes. Older people can enjoy the benefits of public spending now but will not live long enough to help finance the debt through higher taxes or reduced public benefits.But parents can undo the harm that deficit financing imposes on their children by consuming less now and saving more. As governments substitute deficits for taxes, parents will consume less and save more to increase gifts and bequests to their children. If greater saving offsets federal deficits, deficit spending will not increase aggregate demand because the decline in consumption will negate the fiscal stimulus provided by deficits. According to Barro, this intergenerational transfer offsets the future burden of higher debt and neutralizes the effect of deficit spending on aggregate demand, output, and employment.The large budget deficits caused in part by tax cuts and spending increases of the 1980s would seem to provide a natural experiment for testing Barro’s theory. The evidence fails to support his theory because the large federal deficits coincided with lower, not higher, saving rates. Yet defenders of Barro’s view say that maybe the saving rate was low because people were optimistic about future economic growth, an optimism reflected by the strong performance of stock markets. Or maybe the saving rate was low because people believed tax cuts would result not in higher future taxes but in lower government spending, as President Reagan promised.But there are other reasons to question Barro’s theory. First, those with no children may be less concerned about the welfare of future generations. Second, his theory assumes that people are aware of federal spending and tax policies and about the future consequences of current policies. Most people, however, seem to know little about such matters. One survey found that few adults polled had any idea about the size of the federal deficit. In the poll, respondents were offered a range of choices, but only 1 in 10 said correctly that the deficit that year was between $100 billion and $400 billion. CaseStudy: An Intergenerational View of Deficits and Debt) Explain why Robert Barro argues that if parents are concerned about the future welfare of their children, the effects of deficit spending on the economy will be neutralized.  Business Economics Microeconomics ECO 216 Share QuestionEmailCopy link Comments (0)