Premium
The Slow Adjustment of Aggregate Consumption to Permanent Income
Author(s) -
MORLEY JAMES C.
Publication year - 2007
Publication title -
journal of money, credit and banking
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.763
H-Index - 108
eISSN - 1538-4616
pISSN - 0022-2879
DOI - 10.1111/j.0022-2879.2007.00038.x
Subject(s) - permanent income hypothesis , economics , consumption (sociology) , econometrics , aggregate behavior , consumption function , aggregate income , aggregate (composite) , autonomous consumption , stock (firearms) , cointegration , aggregate demand , monetary economics , macroeconomics , aggregate expenditure , income distribution , mathematics , fiscal policy , life cycle hypothesis , social science , materials science , mathematical analysis , sociology , engineering , composite material , inequality , mechanical engineering , monetary policy
This paper investigates the relationship between aggregate consumption and permanent income using a new approach to the estimation of cointegrated systems that builds on Stock and Watson's common stochastic trends representation. The permanent and transitory movements in aggregate income and consumption are estimated directly using the Kalman filter and are allowed to be correlated. This approach avoids any implicit restriction that permanent income be as smooth as consumption. Instead, permanent income appears to be relatively volatile, with consumption adjusting toward it only slowly over time. These results provide a clear rejection of the standard version of the permanent income hypothesis and are suggestive of alternative theories of consumption behavior such as habit formation or precautionary savings.