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Tuesday, October 10th, 2023

Jeanne Commault (Sciences Po Paris) will present “Heterogeneity in MPC Beyond Liquid Wealth: The Role of Persistent Earnings”.

Abstract:

The distribution of marginal propensities to consume (MPCs) is central to analyses of the transmission of aggregate shocks and policies to the economy. Recent empirical findings challenge the standard view that this distribution is mostly explained by liquidity constraints as: (i) many people with substantial liquid wealth have a high MPC; (ii) current earnings, which should relax the constraint, tend on the contrary to raise the MPC. I show that a mechanism explaining (i)-(ii) is present in a standard consumption model with a transitory-permanent earnings process: when human capital is more risky than the other forms of capital owned, an increase in the permanent component that multiplies current and future earnings strengthens precautionary behavior and raises the MPC. In survey data, the permanent component of earnings correlates significantly and positively with the MPC and the effect is large enough to explain (i)-(ii). In numerical simulations, a model with a simple earnings process cannot account for (i)-(ii) but one with rich earnings risk can. Including rich earnings risk also raises the average MPC.