Working Paper: NBER ID: w25757
Authors: Michael Gelman; Shachar Kariv; Matthew D. Shapiro; Dan Silverman
Abstract: Having low liquidity and a high marginal propensity to consume (MPC) are tightly linked. This paper analyzes this linkage in the context of income tax withholding and refunds. A theory of rational cash management with income uncertainty endogenizes the relationship between illiquidity and the MPC, which accounts for the finding that households tend to spend tax refunds as if they valued liquidity, yet do not act to increase liquidity by reducing their income tax withholding. The theory is supported by individual-level evidence, including a positive correlation between the size of tax refunds and the MPC out of those refunds.
Keywords: liquidity; marginal propensity to consume; income tax withholding; tax refunds
JEL Codes: D12; E21; H24
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| tax refunds (H20) | MPC (E42) |
| cash on hand (E41) | MPC (E42) |
| nonpaycheck income volatility (J31) | tax refunds (H20) |
| paycheck income share (D33) | tax refunds (H20) |
| income shocks (J65) | MPC (E42) |
| liquid assets (E41) | tax refunds (H20) |
| income uncertainty (D89) | liquidity constraints (E41) |
| income volatility (D31) | tax refunds (H20) |
| tax refunds (H20) | consumption behavior (D10) |