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HABITS AND THE SAVINGS-GROWTH RELATIONSHIP Why US Personal Savings Rates Are At Historic Lows

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  • Petar D. Vujanovic

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    Abstract

    In this paper we show that the solution to the standard consumer maximisation problem which is augmented by habit-persistence can imply a positive and linear relationship between changes in the level of savings and changes in present income. We show that these savings-income dynamics contrast with the orthodox view that the level of the savings rate is related to the present growth rate of income. The model also implies that if expectations of future changes in income are positive and present income itself is stationary, then the level of consumption tends to converge on income over time and savings fall. In these circumstances the standard model predicts that the level of savings and consumption remain constant. Using personal savings and disposable income time series data, we show that a simple bivariate version of the habits-augmented model which assumes constant expectations of future changes in income and strong habit persistence performs extremely well in terms of explaining the dynamics of post-war United States personal savings rates; in particular their recent decline to historic lows.

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    File URL: http://128.118.178.162/eps/mac/papers/9905/9905002.pdf
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    Bibliographic Info

    Paper provided by EconWPA in its series Macroeconomics with number 9905002.

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    Length: 23 pages
    Date of creation: 19 May 1999
    Date of revision:
    Handle: RePEc:wpa:wuwpma:9905002

    Note: Type of Document - PDF; prepared on IBM PC; to print on HP LaserJet 5; pages: 23 ; figures: included. THIS IS A FIRST DRAFT ANY COMMENTS ARE VERY WELCOME
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    Web page: http://128.118.178.162

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    Keywords: Savings Consumption Habits Growth;

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    1. Christopher D. Carroll, 1992. "How does future income affect current consumption?," Working Paper Series / Economic Activity Section 126, Board of Governors of the Federal Reserve System (U.S.).
    2. Braun, Phillip A. & Constantinides, George M. & Ferson, Wayne E., 1993. "Time nonseparability in aggregate consumption : International evidence," European Economic Review, Elsevier, vol. 37(5), pages 897-920, June.
    3. 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.
    4. Barro, R.J., 1989. "Economic Growth In A Cross Section Of Countries," RCER Working Papers 201, University of Rochester - Center for Economic Research (RCER).
    5. Kenneth D. West, 1988. "The Insensitivity of Consumption to News About Income," NBER Working Papers 2252, National Bureau of Economic Research, Inc.
    6. 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.
    7. John MUELLBAUER, 1988. "Habits, Rationality and Myopia in the Life Cycle Consumption Function," Annales d'Economie et de Statistique, ENSAE, issue 9, pages 47-70.
    8. Easterly, William, 1994. "Economic stagnation, fixed factors, and policy thresholds," Journal of Monetary Economics, Elsevier, vol. 33(3), pages 525-557, June.
    9. Maddison, Angus, 1992. " A Long-Run Perspective on Saving," Scandinavian Journal of Economics, Wiley Blackwell, vol. 94(2), pages 181-96.
    10. Christopher D. Carroll & David N. Weil, 1993. "Saving and Growth: A Reinterpretation," NBER Working Papers 4470, National Bureau of Economic Research, Inc.
    11. Alessie, Rob & Lusardi, Annamaria, 1997. "Consumption, saving and habit formation," Economics Letters, Elsevier, vol. 55(1), pages 103-108, August.
    12. Williamson, Jeffrey G., 1979. "Why do Koreans save so little?," Journal of Development Economics, Elsevier, vol. 6(3), pages 343-362, August.
    13. Banerjee, Anindya & Dolado, Juan J. & Galbraith, John W. & Hendry, David, 1993. "Co-integration, Error Correction, and the Econometric Analysis of Non-Stationary Data," OUP Catalogue, Oxford University Press, number 9780198288107.
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