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Do Consumers Respond in the Same Way to Good and Bad Income Surprises?

Tuesday, February 7, 2017 14:11
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Philip Bunn, Jeanne Le Roux, Kate Reinold and Paolo Surico at Bank Underground:

Do consumers respond in the same way to good and bad income surprises?: If you unexpectedly received £1000 of extra income this year, how much of it would you spend? All? Half? None? Now, by how much would you cut your spending if it had been an unexpected fall in income? Standard economic theory (for example the ‘permanent income hypothesis’) suggests that your answers should be symmetric. But there are good reasons to think that they might not be, for example in the face of limits on borrowing or uncertainty about future income. That is backed up by new survey evidence, which finds that an unanticipated fall in income leads to consumption changes which are significantly larger than the consumption changes associated with an income rise of the same size …

The asymmetry that we document could have important implications for the way that households respond to changes in their income that are brought about by monetary and fiscal policies. For example, changes in monetary policy redistribute income between borrowers and savers (Cloyne, Ferreira & Surico (2016)). Borrowers reported higher MPCs than savers out of both positive and negative income shocks, as is typically assumed, but the asymmetry in MPCs was clearly present for both groups. Such an asymmetry in MPCs implies that, at least in the short term, a given interest rate rise would have a larger contractionary effect on spending than the expansionary effect from an equivalent fall in rates, although households may respond differently to small changes in rates than they do to large changes in income.



Source: http://economistsview.typepad.com/economistsview/2017/02/do-consumers-respond-in-the-same-way-to-good-and-bad-income-surprises.html

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