B3 - Robert Hall Flashcards
According to the Permanent Income Hypothesis (PIH), what is consumption dependent upon?
Consumption depends on both current income and expected future income (‘permanent income’).
How do consumers behave according to the PIH?
Consumers are forward-looking, making consumption decisions based on their current income and expected future income.
What is the difference between rational expectations and adaptive expectations?
- Rational expectations: People use all available information to make optimal forecasts about the future.
- Adaptive expectations: People extrapolate into the future based on past trends, often naively.
How does the PIH incorporate the concept of rational expectations?
The PIH combines the idea that consumption depends on expectations with rational expectations theory, where consumers use all available information to make optimal forecasts about their future income and adjust their consumption accordingly.
What does the Random Walk Hypothesis suggest about consumption behavior over time?
Consumption follows a random walk, where changes in consumption reflect unexpected and unpredictable ‘news’ that causes consumers to revise their expectations.
How do consumers approach consumption smoothing according to the Random Walk Hypothesis?
Consumers seek to smooth consumption over time based on their expected lifetime income, adjusting their consumption levels as they receive new information.
Why is rational expectations theory important in the context of the Random Walk Hypothesis?
Rational expectations theory suggests that consumers use all available information efficiently to make optimal forecasts about the future, including policy changes. Only unexpected policy changes influence current consumption.
How do policymakers influence consumer behavior according to the Random Walk Hypothesis?
Policymakers influence behavior by affecting consumer expectations. Expected events, which consumers anticipate, have little impact on consumption behavior. Unanticipated events or ‘news’ can lead to changes in consumption patterns.
What was the purpose of the Economic Stimulus Act (2008) passed by the US Congress?
It provided a $115 billion one-time tax rebate to individuals as a response to the financial crisis and recession.
According to Taylor (2008, 2009), how did households typically use the tax rebate from the Economic Stimulus Act (2008)?
Many households chose to use their rebate to pay off existing debt rather than increase consumption spending, aligning closely with the theories of Friedman and Modigliani.
What would economic theory predict about the impact of a one-off, predictable stimulus payment on consumption?
Economic theory would predict that the arrival of the cheque should make no difference at all to consumption.
What did Parker et al. find regarding households’ spending behavior in response to the stimulus payment?
Despite economic theory predictions, Parker et al. found that households spent around 20-30% of their stimulus payment during the three-month period in which the payment was received.
How do the findings of Parker et al. challenge the Life-Cycle and Permanent Income Hypotheses (LCPIH)?
The estimated response rejects the rational expectations life-cycle/permanent income hypothesis (LCPIH), which suggests no spending response to a predictable change in income.
