A Model of the Consumption Response to Fiscal Stimulus Payments

44 Pages Posted: 16 Sep 2011

See all articles by Greg Kaplan

Greg Kaplan

University of Pennsylvania

Giovanni L. Violante

New York University, Department of Economics; Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 2 versions of this paper

Date Written: September 2011

Abstract

A wide body of empirical evidence, based on randomized experiments, finds that 20-40 percent of fiscal stimulus payments (e.g. tax rebates) are spent on non-durable household consumption in the quarter that they are received. We develop a structural economic model to interpret this evidence. Our model integrates the classical Baumol-Tobin model of money demand into the workhorse incomplete-markets life-cycle economy. In this framework, households can hold two assets: a low-return liquid asset (e.g., cash, checking account) and a high-return illiquid asset (e.g., housing, retirement account) that carries a transaction cost. The optimal life-cycle pattern of wealth accumulation implies that many households are "wealthy hand-to-mouth": they hold little or no liquid wealth despite owning sizable quantities of illiquid assets. They therefore display large propensities to consume out of additional income. We document the existence of such households in data from the Survey of Consumer Finances. A version of the model parametrized to the 2001 tax rebate episode is able to generate consumption responses to fiscal stimulus payments that are in line with the data.

Keywords: Consumption, Fiscal Stimulus Payments, Hand-to-Mouth, Liquidity

JEL Classification: D31, D91, E21, H31

Suggested Citation

Kaplan, Greg and Violante, Giovanni L., A Model of the Consumption Response to Fiscal Stimulus Payments (September 2011). CEPR Discussion Paper No. DP8562. Available at SSRN: https://ssrn.com/abstract=1928445

Greg Kaplan (Contact Author)

University of Pennsylvania ( email )

Philadelphia, PA 19104
United States

Giovanni L. Violante

New York University, Department of Economics ( email )

269 Mercer Street
New York, NY 10003
United States
212-992-9771 (Phone)
212-995-4186 (Fax)

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Register to save articles to
your library

Register

Paper statistics

Downloads
4
Abstract Views
292
PlumX Metrics