Does Ricardian Equivalence Hold? the Relationship Between Public and Private Saving in Spain

This paper aims to test the validity of the Ricardian proposition for the Spanish economy in two different frameworks: a) in traditional structural consumption equations and, b)in consumption functions stemming from Euler equations derived from a consumer's maximization problem. Our results lean toward rejection of the Ricardian proposition, although some degree of substitution between public and private saving is detected. Moreover, we provide some evidence of consumers becoming increasingly Ricardian with the level of government indebtedness as it may trigger sustainability concerns. In terms of policy implications, these results would suggest that until 2007 fiscal policy in Spain enjoyed some room of manoeuvre to exert its countercyclical role. The sovereign debt crisis has exhausted such margin.