High and Low Savers? Circumstances, Patience, and Cognition

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High and Low Savers? Circumstances, Patience, and
Cognition

• 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/cognition

3
Getting Past Circumstances

• Circumstances create cross-household variation
  when measuring rates C/Income or C/NetWorth
• Difficult to isolate role of preferences or other
  inherent differences across households

4
The Right Rate Consumption and Full Wealth

• Lifecycle/PIH theory since Modigliani says
  consumption should depend on all current and
  future resources (including financial and human
  wealth.)
• Like a stock value of permanent income from today
  forward
• I call this PV of all resources
• Modigliani full wealth M

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Data Allows Comparison Testing

• A credible estimate of M for older households,
  together with consumption, available for the
  first time in the HRS
• Compare observed propensity to consume C/M to
  neoclassical model of optimal consumption rates
• Use survey estimates of models factors that vary
  across households to indicate which factors play
  largest role in explaining observed variation in
  C/M

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Neoclassical Model (Merton 1971)

• Mortality and rate of return the only sources of
  uncertainty

Subject to
Estimate mortality with Gompertz function ?age
?1 e(?2age)
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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

• Survey estimates of model factors matter in
  expected direction
• Heterogeneity in observed C/M! Rich save more
  (lower propensity to consume)
• Inherent characteristics or types important in
  explaining C/M
• Within neoclassical/rational model must have
  heterogeneous time preference to explain C/M
• Looking outside standard model cognition
  planning matter to C/M

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Model Factors
Dependent Variable ln(C/M) (1) (2)

Log Predicted C/M with variation by mortality only 0.013 (0.002)
Log Predicted C/M with variation by mortality and expected risky returns 0.017 (0.002)

N1842 R20.023 R20.027
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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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Rich Save MoreC/M Varies by Income or Wealth
Level
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Beyond the Neoclassical ModelAbilities
Cognition Planning

• Bounded cognition
• Propensity to plan
• Expectations formation
• (Lusardi, LillardWillis, CaplinLeahy)

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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
 
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Further Evidence Loosely Related Preference
Covariates
Dependent Variable Residual of ln(C/M) after full regression

Ever Smoked 0.046 (0.028)
Reports would Spend all of hypothetical income increase 0.091 (0.053)
Reports would Save all of hypothetical income increase -0.055 (0.031)

N1645 R20.01
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