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Precautionary saving and the marginal propensity to consume out of permanent income

  • Carroll, Christopher D.

The budget constraint requires that, eventually, consumption must adjust fully to any permanent shock to income. Intuition suggests that, knowing this, optimizing agents will fully adjust their spending immediately upon experiencing a permanent shock. However, this paper shows that if consumers are impatient and are subject to transitory as well as permanent shocks, the optimal marginal propensity to consume out of permanent shocks (the MPCP) is strictly less than 1, because buffer stock savers have a target wealth-to-permanent-income ratio; a positive shock to permanent income moves the ratio below its target, temporarily boosting saving.

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Paper provided by Center for Financial Studies (CFS) in its series CFS Working Paper Series with number 2009/16.

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Date of creation: 2009
Date of revision:
Handle: RePEc:zbw:cfswop:200916
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  1. Carroll, Christopher D., 2011. "Theoretical foundations of buffer stock saving," CFS Working Paper Series 2011/15, Center for Financial Studies (CFS).
  2. Kimball, Miles S, 1990. "Precautionary Saving in the Small and in the Large," Econometrica, Econometric Society, vol. 58(1), pages 53-73, January.
  3. Blundell, Richard & Low, Hamish & Preston, Ian, 2011. "Decomposing Changes in Income Risk Using Consumption Data," IZA Discussion Papers 6125, Institute for the Study of Labor (IZA).
  4. Christopher D. Carroll & Miles S. Kimball, 1995. "On the Concavity of the Consumption Function," Macroeconomics 9503003, EconWPA.
  5. Caballero, Ricardo J., 1990. "Consumption puzzles and precautionary savings," Journal of Monetary Economics, Elsevier, vol. 25(1), pages 113-136, January.
  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. Tullio Jappelli & Luigi Pistaferri, 2004. "Intertemporal choice and consumption mobility," 2004 Meeting Papers 195, Society for Economic Dynamics.
  8. John M. Abowd & David Card, 1986. "On the Covariance Structure of Earnings and Hours Changes," NBER Working Papers 1832, National Bureau of Economic Research, Inc.
  9. Deaton, A., 1989. "Saving And Liquidity Constraints," Papers 153, Princeton, Woodrow Wilson School - Public and International Affairs.
  10. Storesletten, Kjetil & Telmer, Chris & Yaron, Amir, 2002. "Consumption and Risk Sharing Over the Life Cycle," Seminar Papers 702, Stockholm University, Institute for International Economic Studies.
  11. David S. Johnson & Jonathan A. Parker & Nicholas S. Souleles, 2004. "Household Expenditure and the Income Tax Rebates of 2001," Working Papers 136, Princeton University, Woodrow Wilson School of Public and International Affairs, Discussion Papers in Economics..
  12. Miles S. Kimball, 1990. "Precautionary Saving and the Marginal Propensity to Consume," NBER Working Papers 3403, National Bureau of Economic Research, Inc.
  13. 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.
  14. 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.
  15. Milton Friedman, 1957. "Introduction to "A Theory of the Consumption Function"," NBER Chapters, in: A Theory of the Consumption Function, pages 1-6 National Bureau of Economic Research, Inc.
  16. Milton Friedman, 1957. "A Theory of the Consumption Function," NBER Books, National Bureau of Economic Research, Inc, number frie57-1, December.
  17. Christopher D. Carroll, 2001. "A Theory of the Consumption Function, With and Without Liquidity Constraints (Expanded Version)," NBER Working Papers 8387, National Bureau of Economic Research, Inc.
  18. Christopher D Carroll & Miles S Kimball, 2001. "Liquidity Constraints and Precautionary Saving," Economics Working Paper Archive 455, The Johns Hopkins University,Department of Economics.
  19. Deaton, Angus, 1992. "Understanding Consumption," OUP Catalogue, Oxford University Press, number 9780198288244, July.
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