Consumption Insurance over the Life Cycle

This paper studies the amount of consumption insurance attained by households over the life cycle. We take advantage of the Spanish Household Budget Survey, which collected detailed panel data on consumption and income at the quarterly frequency between 1985 and 1996. We document the joint dynamics of consumption and income for Spanish households over the life cycle. We find that the ability of households to smooth income shocks changes sharply with age. In particular, the transmission of permanent shocks to consumption decreases with age, from full transmission at 25 to less than 40% at 60. In turn, the transmission of transitory shocks is low throughout the life cycle. Our results are broadly consistent with canonical life-cycle models of self-insurance, where the pattern emerges from the combination of increasing willingness and ability to smooth persistent shocks as households age. We illustrate this result by calibrating a quantitative model to Spain. We also validate the generality of our empirical results using data for the US.