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Humps and bumps in lifetime consumption

Author

Listed:
  • Orazio Attanasio

    () (Institute for Fiscal Studies and University College London)

  • James Banks

    () (Institute for Fiscal Studies and University of Manchester)

  • Costas Meghir

    () (Institute for Fiscal Studies and Yale University)

  • Guglielmo Weber

    () (Institute for Fiscal Studies and University of Padua)

Abstract

There is much debate over whether the life-cycle model of consumption can explain consumption growth patterns patterns observed in household level data sources. We argue that once one departs from simple classroom example, or 'stripped down life-cycle model', the empirical model for consumption growth can be made flexible enough to fit the main features of the data. Using simulation techniques to assess the predictions of a life-cycle model estimated on US consumption data, we find that: Allowing demographic variables to affect household preferences and relaxing assumptions about the effects of uncertainty can generate hump-shaped consumption profiles over age that are very similar to those observed in household level data sources, without appealing to alternative explanations such as liquidity constraints, myopia or mental accounting. Humps in consumption paths are partly attributable to precautionary savings, and partly due to demographics; Bumps (or tracking - whereby consumption jumps with income) are instead due to the permanent nature of income shocks. Neglecting the effects of uncertainty produces consumption profiles that are 'too flat', whereas neglecting the effects of demographics generates consumption profiles that peak 'too late'.

Suggested Citation

  • Orazio Attanasio & James Banks & Costas Meghir & Guglielmo Weber, 1995. "Humps and bumps in lifetime consumption," IFS Working Papers W95/14, Institute for Fiscal Studies.
  • Handle: RePEc:ifs:ifsewp:95/14
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    References listed on IDEAS

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    1. Altug, Sumru & Miller, Robert A, 1990. "Household Choices in Equilibrium," Econometrica, Econometric Society, vol. 58(3), pages 543-570, May.
    2. MaCurdy, Thomas E., 1982. "The use of time series processes to model the error structure of earnings in a longitudinal data analysis," Journal of Econometrics, Elsevier, vol. 18(1), pages 83-114, January.
    3. Marcet, Albert & Singleton, Kenneth J., 1999. "Equilibrium Asset Prices And Savings Of Heterogeneous Agents In The Presence Of Incomplete Markets And Portfolio Constraints," Macroeconomic Dynamics, Cambridge University Press, vol. 3(02), pages 243-277, June.
    4. Joseph G. Altonji & Aloysius Siow, 1987. "Testing the Response of Consumption to Income Changes with (Noisy) Panel Data," The Quarterly Journal of Economics, Oxford University Press, vol. 102(2), pages 293-328.
    5. Abowd, John M & Card, David, 1989. "On the Covariance Structure of Earnings and Hours Changes," Econometrica, Econometric Society, vol. 57(2), pages 411-445, March.
    6. Judd, Kenneth L., 1992. "Projection methods for solving aggregate growth models," Journal of Economic Theory, Elsevier, vol. 58(2), pages 410-452, December.
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