How do Households Respond to Income Shocks: Evidence from Urban China from 1992 to 2003
43 Pages Posted: 12 Jun 2013
Date Written: June 11, 2013
In this paper, we examine the issue of consumption insurance in the context of urban China, where the wage structure and social security system changed dramatically during the 1990s. Using a national representative household survey from 1992 to 2003, we construct a pseudo panel dataset to study how Chinese households respond to income shocks. We find that full consumption is overwhelmingly rejected, with 1% change in income leading to 0.6% change in overall consumption in the first half of 1990s. We also find that households’ ability to insure consumption was increased substantially in the second half of the sample period. Furthermore, households tend to cut down expenditures on durable goods to insure consumption on the non-durables, when faced with income shocks. There is also evidence showing that households sacrifice the smoothness of health and education spending for food consumption smoothing, which would result in long-run negative impacts on human capital accumulation. Lastly, our work provides evidence suggesting that households might achieve partial consumption insurance through asset holdings adjustments, saving and dis-saving in financial institutions, and money transfers from relatives and friends.
Keywords: consumption smoothing, consumption insurance, income shocks
JEL Classification: D12, E21, O15, O53
Suggested Citation: Suggested Citation