2001/08/01 by Christopher D. Carroll · 2 citations
Business, Management and Accounting · Economics, Econometrics and Finance · #Financial Literacy, Pension, Retirement Analysis #Economic theories and models #Monetary Policy and Economic Impact
paper · pdf · doi:10.1257/jep.15.3.23
openalex publication_date 2001/08/01 · openalex created_date 2025/10/10 · openalex updated_date 2026/07/25
This paper argues that the modern stochastic consumption model, in which impatient consumers face uninsurable labor income risk, matches Milton Friedman's (1957) original description of the Permanent Income Hypothesis much better than the perfect foresight or certainty equivalent models did. The model can explain the high marginal propensity to consume, the high discount rate on future income, and the important role for precautionary behavior that were all part of Friedman's original framework. The paper also explains the relationship of these questions to the Euler equation literature, and argues that the effects of precautionary saving and liquidity constraints are often virtually indistinguishable.