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Does Saving Anticipate Declining Labor Income? An Alternative Test of the Permanent Income Hypothesis

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John Y. Campbell

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Abstract

The permanent income hypothesis implies that people save because they rationally expect their labor income to decline; they save "for a rainy day". It follows that saving should be at least as good a predictor of declines in labor income as any other forecast that can be constructed from publicly available information.The paper tests this hitherto ignored implication of the permanent income hypothesis, using quarterly aggregate data for the period 1953-84 in the U.S. A vector autoregression for saving and changes in labor income is used to generate an unrestricted forecast of declines in labor income. In the VAR, saving Granger causes labor income changes as one would expect if the PIH is true. The mean of the unrestricted forecast is far from the mean of saving, but the dynamics of the two series are quite similar.The paper presents both formal test statistics and an informal evaluation of the "fit" of the permanent income hypothesis. By contrast with most of the recent literature, the results here are valid when income is nonstationary.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 1805.

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Date of creation: Sep 1988
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Publication status: published as Campbell, John. "Does Saving Anticipate Declining Labor Income? An Alternative Test of the Permanent Income Hypothesis," Econometrica, Vol. 55, No. 6 , pp. 1249-1273, (November 1987)
Handle: RePEc:nbr:nberwo:1805

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Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Hall, Robert E, 1978. "Stochastic Implications of the Life Cycle-Permanent Income Hypothesis: Theory and Evidence," Journal of Political Economy, University of Chicago Press, vol. 86(6), pages 971-87, December. [Downloadable!] (restricted)
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  2. Stock, James H, 1987. "Asymptotic Properties of Least Squares Estimators of Cointegrating Vectors," Econometrica, Econometric Society, vol. 55(5), pages 1035-56, September. [Downloadable!] (restricted)
  3. John Y. Campbell & Robert J. Shiller, 1988. "Cointegration and Tests of Present Value Models," NBER Working Papers 1885, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  4. Lars Peter Hansen & Thomas J. Sargent, 1980. "Linear rational expectations models for dynamically interrelated variables," Working Papers 135, Federal Reserve Bank of Minneapolis. [Downloadable!]
  5. Muellbauer, John, 1983. "Surprises in the Consumption Function," Economic Journal, Royal Economic Society, vol. 93(369a), pages 34-50, Supplemen. [Downloadable!] (restricted)
  6. Ben S. Bernanke, 1982. "Adjustment Costs, Durables, and Aggregate Consumption," NBER Working Papers 1038, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  7. Davidson, James E. H. & Hendry, David F., 1981. "Interpreting econometric evidence : The behaviour of consumers' expenditure in the UK," European Economic Review, Elsevier, vol. 16(1), pages 177-192. [Downloadable!] (restricted)
  8. Hayashi, Fumio, 1982. "The Permanent Income Hypothesis: Estimation and Testing by Instrumental Variables," Journal of Political Economy, University of Chicago Press, vol. 90(5), pages 895-916, October. [Downloadable!] (restricted)
  9. Matthew D. Shapiro & N. Gregory Mankiw, 1984. "Trends, Random Walks, and Tests of the Permanent Income Hypothesis," Cowles Foundation Discussion Papers 725, Cowles Foundation, Yale University. [Downloadable!]
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  10. Deaton, A. & Grosh, M., 1998. "Consumption," Papers 191, Princeton, Woodrow Wilson School - Development Studies.
  11. Mervyn A. King, 1983. "The Economics of Saving," NBER Working Papers 1247, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  12. Davidson, James E H, et al, 1978. "Econometric Modelling of the Aggregate Time-Series Relationship between Consumers' Expenditure and Income in the United Kingdom," Economic Journal, Royal Economic Society, vol. 88(352), pages 661-92, December. [Downloadable!] (restricted)
  13. Bernanke, Ben, 1985. "Adjustment costs, durables, and aggregate consumption," Journal of Monetary Economics, Elsevier, vol. 15(1), pages 41-68, January. [Downloadable!] (restricted)
  14. Sargent, Thomas J, 1978. "Rational Expectations, Econometric Exogeneity, and Consumption," Journal of Political Economy, University of Chicago Press, vol. 86(4), pages 673-700, August. [Downloadable!] (restricted)
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  15. Flavin, Marjorie A, 1981. "The Adjustment of Consumption to Changing Expectations about Future Income," Journal of Political Economy, University of Chicago Press, vol. 89(5), pages 974-1009, October. [Downloadable!] (restricted)
  16. Baillie, Richard T & Lippens, Robert E & McMahon, Patrick C, 1983. "Testing Rational Expectations and Efficiency in the Foreign Exchange Market," Econometrica, Econometric Society, vol. 51(3), pages 553-63, May. [Downloadable!] (restricted)
  17. Sawa, Takamitsu, 1978. "Information Criteria for Discriminating among Alternative Regression Models," Econometrica, Econometric Society, vol. 46(6), pages 1273-91, November. [Downloadable!] (restricted)
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