High and Low Savers? Circumstances and Preferences

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High and Low Savers? Circumstances and Preferences

• Laurie Pounder

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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

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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

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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
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• Components of K(i,t)

Fixed cost of work
Household returns to scale

• Expression governing curvature of recursive value
  function

? coefficient of relative risk aversion ?
intertemporal substitution
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Average Propensity to Consume
Infinite Horizon (no mortality)

• 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

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Findings

• Estimated model has simple correlation with
  observed C/M of 0.23 (R20.06)
• 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

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What Model Does Explain
Predicted Variation from Mortality Returns to Scale in Household Size Utility Cost of Working (Retirement Status) Actual Risky Asset Allocation Expected Returns
Simple Correlation 0.206 0.213 0.234
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What Model Doesnt Explain
Rich Have Lower Consumption Rate
Moving Average Income Profile
Note Bars indicate 25th and 75th percentiles of
the Log Income Distribution
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Adding Survey Measures of Model Factors
Dependent Variable ln(C/M) with additional demographics with additional demographics with additional demographics

Subjective Life Expectancy Ratio -0.137 (0.044) -0.080 (0.043)
Probability of Bequest gt10k (Continuous) -0.002 (0.001)
Probability of Bequest gt100k (Continuous) -0.003 (0.001)
Risk Aversion Survey Measure -0.022 (0.007)

Model Prediction 1.33 (0.363) 1.04 (0.359) 1.45 (0.454)
Constant 3.69 -3.55 -5.77
R20.231 R20.287 R20.226
N1190 N1190 N894
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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

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Residual Explained by Time/Intertemporal
Preferences (Patience)?
Dependent Variable Residual of ln(C/M) after OLS on model prediction, demographics, bequests, life expectancy, and health (1) (2)

Conditional Accumulated Net Worth Net Worth / Sum of Earnings -0.043 (0.015) -0.044 (0.016)
Age of Household Head -0.062 (0.046)
Ratio of Pensions and Social Security to Earnings -0.0001 (0.0002)

Constant 0.013 1.955
N1095 R20.01 R20.01
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Cognition and Planning in Consumption Rejecting
the Neoclassical Model

• Laurie Pounder

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Beyond the Neoclassical ModelAbilities
Cognition Planning

• Bounded cognition
• Propensity to plan
• Expectations formation

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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

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Cognition/Planning Predict C/M
Dependent Variable Residual of ln(C/M) after full regression

Long Financial Planning Horizon -0.070 (0.028)
Fraction of Precise Answers -0.088 (0.053)
High Word Recall -0.062 (0.030)
Counting Backwards -0.124 (0.048)
Hardest Subtraction Problem -0.049 (0.030)

N1645 R20.027
Note Standard errors in parentheses.
Standard errors adjusted for two-step regression.
 
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Lusardi Literacy Planning Module
Dependent Variable Residual of ln(C/M) after full regression (1) (2) (3) (4)

Financial Literacy Index -0.174 (0.070) -0.206 (0.070) -0.212 (0.074)
Planning Budgeting Index 0.042 (0.024) 0.056 (0.023) 0.057 (0.024)

Long Financial Planning Horizon -0.128 (0.109)
Fraction of Precise Answers 0.118 (0.200)
High Word Recall -0.165 (0.120)
Counting Backwards 0.248 (0.179)
Hardest Subtraction Problem 0.008 (0.113)
N116 R20.032 R20.026 R20.075 R20.100
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1999 Mailout Personality Qs
Dependent Variable Residual of ln(C/M) after full regression Dependent Variable Residual of ln(C/M) after full regression Dependent Variable Residual of ln(C/M) after full regression Dependent Variable Residual of ln(C/M) after full regression Dependent Variable Residual of ln(C/M) after full regression Dependent Variable Residual of ln(C/M) after full regression
Personality Questions
Seldom apprehensive about future 0.028 (0.022) 0.048 (0.023)
Strive for excellence -0.097 (0.024) -0.109 (0.029)
Clear set of goals and work toward them -0.026 (0.023) -0.006 (0.025)
Work hard to accomplish goals -0.063 (0.034) -0.011 (0.039)
N235 N235 N235 N235 N235 N235
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Form for fixed cost of work
a degree of substitutability of consumption and
leisure ? Frisch labor supply elasticity?