Consumption Adjustment under Time-Varying Income Uncertainty

Joon‐Ho Hahm · Douglas G. Steigerwald

79 citations0/0 files storedThe Review of Economics and Statistics

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Financial Literacy, Pension, Retirement Analysis Monetary Policy and Economic Impact Economic theories and models

Abstract

We study the effect of income uncertainty on consumption in a model that includes precautionary saving. In contrast to previous studies, we focus on time-series variation in income uncertainty. Our time-series measure of income uncertainty is constructed from a panel of forecasts. We find evidence of precautionary saving in that increases in income uncertainty are related to increases in aggregate rates of saving. We also find evidence that anticipated income growth rates have less explanatory power for consumption growth rates after conditioning on income uncertainty. The evidence indicates the presence of forward-looking consumers who gradually adjust precautionary savings in response to changing income uncertainty.

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References

1978Stochastic Implications of the Life Cycle-Permanent Income Hypothesis: Theory and Evidence 1990Habit Formation: A Resolution of the Equity Premium Puzzle 1988Intertemporal Substitution in Consumption 1981The Adjustment of Consumption to Changing Expectations About Future Income 1992The Buffer-Stock Theory of Saving: Some Macroeconomic Evidence 1991A Simple Test of Consumption Insurance 1989Optimal Consumption with Stochastic Income: Deviations from Certainty Equivalence 1989Why is Consumption So Smooth?

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