Does Income Inequality Lead to Consumption Inequality? Evidence and Theory
Abstract
This paper first documents the evolution of the cross-sectional income and consumption distribution in the US in the past 25 years. Using data from the Consumer Expenditure Survey we find that a rising income inequality has not been accompanied by a corresponding rise in consumption inequality. Over the period from 1972 to 1998 the standard deviation of the log of after-tax labor income has increased by 20% while the standard deviation of log consumption has increased less than 2%. Furthermore income inequality has increased both between and within education groups while consumption inequality has increased between education groups but mildly declined within groups. We then argue that these empirical findings are consistent with the hypothesis that an increase in income volatility has been an important cause of the increase in income inequality, but at the same time has lead to an endogenous development of credit markets, allowing households to better smooth their consumption against idiosyncratic income fluctuations. We develop a consumption model in which the sharing of income risk is limited by imperfect enforcement of credit contracts and in which the development of financial markets depends on the volatility of the individual income process. This model is shown to be quantitatively consistent with the joint evolution of income and consumption inequality in US, while other commonly used consumption models are not.Download Info
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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 9202.Length:
Date of creation: Sep 2002
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Handle: RePEc:nbr:nberwo:9202
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- Dirk Krueger & Fabrizio Perri, 2005. "Does income inequality lead to consumption equality? evidence and theory," Staff Report 363, Federal Reserve Bank of Minneapolis.
- Dirk Krueger & Fabrizio Perri, 2005. "Does Income Inequality Lead to Consumption Inequality? Evidence and Theory," CFS Working Paper Series 2005/15, Center for Financial Studies.
- Dirk Kreuger & Fabrizio Perri, 2002. "Does Income Inequality Lead to Consumption Inequality? Evidence and Theory," Working Papers 02-15, New York University, Leonard N. Stern School of Business, Department of Economics.
- E21 - Macroeconomics and Monetary Economics - - Macroeconomics: Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
- D91 - Microeconomics - - Intertemporal Choice and Growth - - - Intertemporal Consumer Choice; Life Cycle Models and Saving
This paper has been announced in the following NEP Reports:
- NEP-ALL-2002-09-28 (All new papers)
- NEP-DGE-2002-09-28 (Dynamic General Equilibrium)
- NEP-LAB-2002-09-28 (Labour Economics)
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