Permanent Income, Current Income, and Consumption

This paper reexamines the consistency of the permanent income hypothesis with aggregate, post-war, United States data. The permanent income hypothesis is nested within a more general model in which a fraction of income accrues to individuals who consume their current income rather than their permanent income. This fraction is estimated to be 40 or 50 percent, indicating a substantial departure from the permanent income hypothesis. This finding is robust to various statistical problems that have plagued previous work, such as time aggregation, and cannot be easily explained by appealing to changes in the real interest rate or to non-separabilities in the utility function.