Consuming, Saving, and Spending Most of Income
43 Pages Posted: 25 Oct 2004 Last revised: 7 Feb 2022
Date Written: February 9, 2022
This paper extends the traditional life-cycle hypothesis to allow for rewards from consumption and savings. In the new model, the utility function depends both on consumption and savings, resulting in differing marginal propensities to consume (DMPC) from current income, current wealth, and future income. Specifically, consumption is financed mostly by current income. The model explains various empirical regularities not captured by the traditional life-cycle model including the hypersensitivity of consumption to current income shocks, and the drop in individual consumption at the time of retirement.
Keywords: Savings, mental accounting, quadratic utility, consumer choice
JEL Classification: D12, E22
Suggested Citation: Suggested Citation