Behavioral Heterogeneity and the Income Effect

70 Pages Posted: 23 Aug 2000

See all articles by Laurent E. Calvet

Laurent E. Calvet

EDHEC Business School - Department of Economics & Finance; CEPR

Etienne Comon

Harvard Institute of Economic Research

Date Written: March 2000

Abstract

Inspired by the recent literature on aggregation theory, this paper introduces HITS, a semiparametric model of consumer demand that allows for diversity in tastes. The strong variation of budget shares observed across income strata can arise from two economic factors: the individual income effect, and taste differences between poor and rich households. Consumer expenditure surveys that report repeated cross-sections do not permit the direct measurement of these two effects, and the paper solves this difficulty by developing a new microeconometric framework. We model consumer demand by a class of Nearly Ideal Demand Systems parameterized by a unique taste parameter. Linear heterogeneity allows GMM estimation of the structural coefficients on an aggregate time series, and the joint density of spending and tastes is recovered from cross-sections by a nonparametric procedure involving a deconvolution. We develop an asymptotic theory and demonstrate the accuracy of the algorithm by Monte Carlo and bootstrap simulations. The model is estimated on four size groups using the British Family Expenditure Survey (1968-98). We report a strong correlation between income and tastes, which explains most of the observed variation of budget shares with income. Unlike some earlier models, this new approach is consistent with both the yearly cross-sections of individual choices and the dynamics of aggregate shares.

JEL Classification: C14, C15, C31, C51, C52, C53, D12

Suggested Citation

Calvet, Laurent E. and Comon, Etienne, Behavioral Heterogeneity and the Income Effect (March 2000). Available at SSRN: https://ssrn.com/abstract=238533 or http://dx.doi.org/10.2139/ssrn.238533

Laurent E. Calvet (Contact Author)

EDHEC Business School - Department of Economics & Finance ( email )

France

CEPR ( email )

33 Great Sutton Street
London, EC1V 0DX
United Kingdom

Etienne Comon

Harvard Institute of Economic Research ( email )

Department of Economics
200 Littauer Center
Cambridge, MA 02138
United States

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