Working Paper: CEPR ID: DP8562
Authors: Greg Kaplan; Giovanni L. Violante
Abstract: A wide body of empirical evidence, based on randomized experiments, finds that 20-40 percent of fiscal stimulus payments (e.g. tax rebates) are spent on non-durable household consumption in the quarter that they are received. We develop a structural economic model to interpret this evidence. Our model integrates the classical Baumol-Tobin model of money demand into the workhorse incomplete-markets life-cycle economy. In this framework, households can hold two assets: a low-return liquid asset (e.g., cash, checking account) and a high-return illiquid asset (e.g., housing, retirement account) that carries a transaction cost. The optimal life-cycle pattern of wealth accumulation implies that many households are "wealthy hand-to-mouth": they hold little or no liquid wealth despite owning sizable quantities of illiquid assets. They therefore display large propensities to consume out of additional income. We document the existence of such households in data from the Survey of Consumer Finances. A version of the model parametrized to the 2001 tax rebate episode is able to generate consumption responses to fiscal stimulus payments that are in line with the data.
Keywords: Consumption; Fiscal Stimulus Payments; Hand-to-Mouth; Liquidity
JEL Codes: D31; D91; E21; H31
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Macroeconomic conditions (2001 recession, tax reforms) (E65) | Consumption response to rebates (D12) |
| Receipt of rebate (H20) | Consumption response (D12) |
| Anticipation of rebate (D84) | Consumption response (D12) |
| Wealthy hand-to-mouth households (G59) | High MPC despite illiquid assets (E41) |
| Wealthy hand-to-mouth households (G59) | Amplified consumption responses to fiscal stimulus (H30) |
| Fiscal stimulus payments (E62) | Household consumption response (D12) |
| MPC from fiscal stimulus payments (E62) | Substantial consumption (E21) |