Testing for Money Illusion Hypothesis in Aggregate Consumption Function : Mixed Data Sampling Approach

Testing for the money illusion hypothesis in aggregate consumption function generally involves a regression model that projects real consumption onto nominal disposable income and a consumer price index. Price data are usually available at a monthly level, but consumption and income data are sampled at a quarterly level in some countries like Japan.This paper takes advantage of mixed data sampling (MIDAS) regressions in order to exploit monthly price data. We show via Monte Carlo simulations that our approach yields deeper economic insights and higher statistical precision than the previous single-frequency approach that aggregates price data into a quarterly level. In particular, the MIDAS approach allows for heterogeneous effects of monthly prices on real consumption within each quarter. In empirical applications we find that the heterogeneous effects indeed exist in Japan