Measuring Noise in the Permanent Income Hypothesis
Posted: 8 Sep 2003
Based on a number of 'deviation measures', Kim (1996) finds that postwar US consumption deviates from the Permanent Income Hypothesis (PIH)by only around 4 percent. In the present paper we investigate in more detail the extent to which the PIH provides a good approximation to US consumption data. We point out some unappealing features in the methods suggested by Kim, and we propose a method that does not have these drawbacks. In particular, we argue that due to the non-stationarity that characterizes consumption and income, deviation measures should be expressed in terms of saving rather than consumption. By applying our proposed method we find that, although it is possible to come up with a particular version of the PIH that leads to small deviations, in general US saving deviates from PIH saving by substantially more than 4 percent.
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