High and Low Savers? Circumstances and Preferences

1. High and Low Savers? Circumstances and Preferences Laurie Pounder

2. Differences in Consumption (Saving) Rates Across Households: Circumstances? Such as income shocks; differences in pensions (income replacement rate in retirement); income profiles; etc. Or Types of Savers? By “inherent” characteristics such as preferences or ability

3. Answers from C/M • Subject to less “noise” from circumstances, C/M is an ideal measure for looking at differences across households in consumption and revealing underlying parameters • Compare model prediction of C/M to observed

4. Neoclassical Model • Uncertainty only in mortality and rate of return • Krep-Porteus type preferences; recursive formulation • Household returns to scale & fixed cost of work Subject to:

5. Components of K(i,t): Fixed cost of work Household returns to scale • Expression governing curvature of recursive value function: γ= coefficient of relative risk aversion θ= intertemporal substitution

6. Average Propensity to Consume Implications: • C is proportional in M • C/M depends only on preferences, stochastic return characteristics, and mortality. • C/M does not depend directly on M, income profile, or outcome of past income shocks Infinite Horizon (no mortality):

7. Findings • Estimated model has simple correlation with observed C/M of 0.23 (R2=0.06) • Survey estimates of model factors (mortality, bequests, risk aversion) matter in expected direction • Unexplained heterogeneity in observed C/M! Rich save more (lower propensity to consume) • “Inherent” characteristics, or preferences, important in explaining C/M

8. What Model Does Explain

9. What Model Doesn’t Explain Rich Have Lower Consumption Rate Moving Average Income Profile Note: Bars indicate 25th and 75th percentiles of the Log Income Distribution

10. Adding Survey Measures of Model Factors

11. Time/Intertemporal Preference Heterogenegity • Still substantial unexplained heterogeneity • Still strong correlation of residual heterogeneity and prosperity • Heterogeneity in discount rate and intertemporal substitution only model factors unaccounted for • These would explain observation of rich save more

12. Residual Explained by Time/Intertemporal Preferences (Patience)?

13. Cognition and Planning in Consumption: Rejecting the Neoclassical Model Laurie Pounder

14. Beyond the Neoclassical ModelAbilities: Cognition & Planning • Bounded cognition • Propensity to plan • Expectations formation

15. Measures in HRS • HRS asks questions on basic cognition (recall, counting, subtraction) plus planning horizon and subjective expectations • Lillard & Willis “focal point” answers; precision of expectations formation related to financial decisions • Measures matter such that lower cognition, less precision, and shorter planning horizons all imply higher propensities to consume

16. Cognition/Planning Predict C/M Note: Standard errors in parentheses. Standard errors adjusted for two-step regression.

17. Lusardi Literacy & Planning Module

18. 1999 Mailout Personality Qs

19. Form for fixed cost of work α = degree of substitutability of consumption and leisure η = Frisch labor supply elasticity?