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Death to the Log-Linearized Consumption euler Equation! (And Very Poor Health to the Second-Order Approximation)

  • Christopher D Carroll

This paper shows that standard empirical methods for estimating log-linearized consumption Euler equations cannot successfully uncover structural parameters like the coefficient of relative risk aversion from a dataset of simulated consumers behaving exactly according to the standard model Furthermore consumption growth for simulated consumers is very highly statistically related to predictable income growth -- and thus standard 'excess sensitivity' tests would reject the hypothesis that consumers are behaving according to the standard model Results are not much better for the second-order approximation to the Euler equation The paper concludes that empirical estimation of consumption Euler equations should be abandoned and discusses some alternative empirical strategies that are not subject to the problems of Euler equation estimation

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Paper provided by The Johns Hopkins University,Department of Economics in its series Economics Working Paper Archive with number 390.

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Date of creation: Sep 1997
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Handle: RePEc:jhu:papers:390
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  1. Shapiro, Matthew D., 1984. "The permanent income hypothesis and the real interest rate : Some evidence from panel data," Economics Letters, Elsevier, vol. 14(1), pages 93-100.
  2. Orazio Attanasio & Hamish Low, 2002. "Estimating Euler equations," IFS Working Papers W02/06, Institute for Fiscal Studies.
  3. Hansen, Lars Peter, 1982. "Large Sample Properties of Generalized Method of Moments Estimators," Econometrica, Econometric Society, vol. 50(4), pages 1029-54, July.
  4. Dynan, Karen E, 1993. "How Prudent Are Consumers?," Journal of Political Economy, University of Chicago Press, vol. 101(6), pages 1104-13, December.
  5. Christopher D. Carroll, 1992. "The Buffer-Stock Theory of Saving: Some Macroeconomic Evidence," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 23(2), pages 61-156.
  6. Carroll, Christopher D. & Samwick, Andrew A., 1997. "The nature of precautionary wealth," Journal of Monetary Economics, Elsevier, vol. 40(1), pages 41-71, September.
  7. Attanasio, Orazio P & Weber, Guglielmo, 1995. "Is Consumption Growth Consistent with Intertemporal Optimization? Evidence from the Consumer Expenditure Survey," Journal of Political Economy, University of Chicago Press, vol. 103(6), pages 1121-57, December.
  8. Martin Browning & Annamaria Lusardi, 1995. "Household Saving: Micro Theories and Micro Facts," Department of Economics Working Papers 1995-02, McMaster University.
  9. John Y. Campbell & N. Gregory Mankiw, 1989. "Consumption, Income and Interest Rates: Reinterpreting the Time Series Evidence," NBER Chapters, in: NBER Macroeconomics Annual 1989, Volume 4, pages 185-246 National Bureau of Economic Research, Inc.
  10. Gourinchas, Pierre-Olivier & Parker, Jonathan A, 2000. "Consumption Over the Life-Cycle," CEPR Discussion Papers 2345, C.E.P.R. Discussion Papers.
  11. Karen E. Dynan, 1993. "How prudent are consumers?," Working Paper Series / Economic Activity Section 135, Board of Governors of the Federal Reserve System (U.S.).
  12. repec:fth:harver:1435 is not listed on IDEAS
  13. Carroll, Christopher D & Kimball, Miles S, 1996. "On the Concavity of the Consumption Function," Econometrica, Econometric Society, vol. 64(4), pages 981-92, July.
  14. Robert B. Barsky & Miles S. Kimball & F. Thomas Juster & Matthew D. Shapiro, 1995. "Preference Parameters and Behavioral Heterogeneity: An Experimental Approach in the Health and Retirement Survey," NBER Working Papers 5213, National Bureau of Economic Research, Inc.
  15. Michaelides, Alexander & Ng, Serena, 2000. "Estimating the rational expectations model of speculative storage: A Monte Carlo comparison of three simulation estimators," Journal of Econometrics, Elsevier, vol. 96(2), pages 231-266, June.
  16. Lawrance, Emily C, 1991. "Poverty and the Rate of Time Preference: Evidence from Panel Data," Journal of Political Economy, University of Chicago Press, vol. 99(1), pages 54-77, February.
  17. Chris Carroll & Lawrence H. Summers, 1989. "Consumption Growth Parallels Income Growth: Some New Evidence," NBER Working Papers 3090, National Bureau of Economic Research, Inc.
  18. Stephen Zeldes, . "Optimal Consumption with Stochastic Income: Deviations from Certainty Equivalence," Rodney L. White Center for Financial Research Working Papers 20-86, Wharton School Rodney L. White Center for Financial Research.
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