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Precautionary Saving and Consumption Smoothing Across Time and Possibilities

  • Miles Kimball

    (Survery Research Center (SRC))

  • Philippe Weil

This paper examines how aversion to risk and aversion to intertemporal substitution determine the strength of the precautionary saving motive in a two-period model with Selden/Kreps-Porteus preferences. For small risks, we derive a measure of the strength of the precautionary saving motive which generalizes the concept of "prudence" introduced by Kimball (1990b). For large risks, we show that decreasing absolute risk aversion guarantees that the precautionary saving motive is stronger than risk aversion, regardless of the elasticity of intertemporal substitution. Holding risk preferences fixed, the extent to which the precautionary saving motive is stronger than risk aversion increases with the elasticity of intertemporal substitution. We derive sufficient conditions for a change in risk preferences alone to increase the strength of the precautionary saving motive and for the strength of the precautionary saving motive to decline with wealth. Within the class of constant elasticity of intertemporal substitution, constant-relative risk aversion utility functions, these conditions are also necessary.

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Paper provided by Sciences Po in its series Sciences Po publications with number 3976.

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Date of creation: Jan 1992
Date of revision:
Handle: RePEc:spo:wpmain:info:hdl:2441/8703
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  1. repec:oup:restud:v:60:y:1993:i:2:p:367-83 is not listed on IDEAS
  2. Caballero, Ricardo J., 1990. "Consumption puzzles and precautionary savings," Journal of Monetary Economics, Elsevier, vol. 25(1), pages 113-136, January.
  3. Selden, Larry, 1978. "A New Representation of Preferences over "Certain A Uncertain" Consumption Pairs: The "Ordinal Certainty Equivalent" Hypothesis," Econometrica, Econometric Society, vol. 46(5), pages 1045-60, September.
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  5. repec:oup:restud:v:66:y:1999:i:4:p:873-907 is not listed on IDEAS
  6. DREZE, Jacques H. & MODIGLIANI, Franco, . "Cosumption decisions under uncertainty," CORE Discussion Papers RP 119, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  7. Kimball, Miles S & Mankiw, N Gregory, 1989. "Precautionary Saving and the Timing of Taxes," Journal of Political Economy, University of Chicago Press, vol. 97(4), pages 863-79, August.
  8. Robert E. Hall, 1981. "Intertemporal Substitution in Consumption," NBER Working Papers 0720, National Bureau of Economic Research, Inc.
  9. Miles S. Kimball, 1991. "Precautionary Motives for Holding Assets," NBER Working Papers 3586, National Bureau of Economic Research, Inc.
  10. Skinner, Jonathan, 1988. "Risky income, life cycle consumption, and precautionary savings," Journal of Monetary Economics, Elsevier, vol. 22(2), pages 237-255, September.
  11. repec:oup:qjecon:v:105:y:1990:i:1:p:29-42 is not listed on IDEAS
  12. repec:oup:restud:v:60:y:1993:i:2:p:385-95 is not listed on IDEAS
  13. Robert B. Barsky, 1986. "Why Don't the Prices of Stocks and Bonds Move Together?," NBER Working Papers 2047, National Bureau of Economic Research, Inc.
  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. Alberto Giovannini & Philippe Weil, 1989. "Risk Aversion and Intertemporal Substitution in the Capital Asset Pricing Model," NBER Working Papers 2824, National Bureau of Economic Research, Inc.
  16. Epstein, Larry G & Zin, Stanley E, 1989. "Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: A Theoretical Framework," Econometrica, Econometric Society, vol. 57(4), pages 937-69, July.
  17. Kreps, David M & Porteus, Evan L, 1978. "Temporal Resolution of Uncertainty and Dynamic Choice Theory," Econometrica, Econometric Society, vol. 46(1), pages 185-200, January.
  18. repec:oup:qjecon:v:104:y:1989:i:2:p:275-98 is not listed on IDEAS
  19. repec:oup:qjecon:v:112:y:1997:i:2:p:537-79 is not listed on IDEAS
  20. Kihlstrom, Richard E & Romer, David & Williams, Steve, 1981. "Risk Aversion with Random Initial Wealth," Econometrica, Econometric Society, vol. 49(4), pages 911-20, June.
  21. Miles S. Kimball, 1990. "Precautionary Saving and the Marginal Propensity to Consume," NBER Working Papers 3403, National Bureau of Economic Research, Inc.
  22. Pratt, John W, 1988. " Aversion to One Risk in the Presence of Others," Journal of Risk and Uncertainty, Springer, vol. 1(4), pages 395-413, December.
  23. Miles S. Kimball, 1989. "Precautionary Saving in the Small and in the Large," NBER Working Papers 2848, National Bureau of Economic Research, Inc.
  24. Barsky, Robert B & Mankiw, N Gregory & Zeldes, Stephen P, 1986. "Ricardian Consumers with Keynesian Propensities," American Economic Review, American Economic Association, vol. 76(4), pages 676-91, September.
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