Income Asymmetries and the Permanent Income Hypothesis

Juan Urquiza

No 409, Documentos de Trabajo from Instituto de Economia. Pontificia Universidad Católica de Chile.

Abstract: Within the context of the Permanent Income Hypothesis (PIH), the predictions for consumption depend crucially upon the process for income. In this paper, we consider an unobserved components model that allows for both asymmetric transitory movements and correlation between permanent and transitory innovations. Using aggregate U.S. data, we show that this model fits labor income data significantly better than common alternatives. However, we find that consumption is excessively smooth relative to the predictions of our model. To reconcile these predictions with the data, we explore the possibility of imperfect information. A delayed information version of the model fits the data better but consumption is excessively sensitive compared to the predictions of this model. We are able to match the data when we consider an economy in which 60 – 65% of consumers behave according to the PIH with full information and the remaining consumers have delayed information.

Keywords: Unobserved Components Models; markov-Switching; consumption dynamics; excess smoothness; excess sensitivity; imperfect information (search for similar items in EconPapers)
JEL-codes: C22 C51 E21 E32 (search for similar items in EconPapers)
Date: 2011
New Economics Papers: this item is included in nep-dge
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Persistent link: https://EconPapers.repec.org/RePEc:ioe:doctra:409

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