Consumer preferences and demand systems

This paper is an up-to-date survey of the state-of-the-art in consumer demand modelling. We review and evaluate advances in a number of related areas, including different approaches to empirical demand analysis, such as the differential approach, the locally flexible functional forms approach, the semi-non-parametric approach, and a non-parametric approach. We also address estimation issues, including sampling theoretic and Bayesian estimation methods, and discuss the limitations of the currently common approaches. We also highlight the challenge inherent in achieving economic regularity, for consistency with the assumptions of the underlying neoclassical economic theory, as well as econometric regularity, when variables are nonstationary.     

The structure of US food demand

An exactly aggregable system of Gorman Engel curves for US food consumption is developed and implemented. Box-Cox transformations on prices and income nest functional form. The model nests rank up to rank three. The model is estimated by nonlinear three-stage least squares with annual time series data on 21 foods, 17 nutrients, age and race demographics, and the distribution of income for 1919–1941 and 1947–2000. Results are consistent with full rank three. Point estimates for the Box-Cox parameters on income and prices are 0.86 and 1.09, respectively, strongly rejecting zero and one in both cases. No statistical evidence of serial correlation, specification errors, or parameter instability is found.     

Price uncertainty, saving, and welfare

We analyze how commodity price uncertainty affects saving behavior and welfare in a dynamic model with multiple commodities, portfolio hedging, and a preference structure that disentangles ordinal preferences, attitudes towards risk, and attitudes towards intertemporal substitution. We show that the effect of price uncertainty on savings boils down to knowing (1) hf degree of resistance to intertemporal substitution and (2) the effect that uncertainty has on the certainty-equivalent real interest rate. We also show that, if the certainty-equivalent real interest rate is lower with uncertainty, consumers' welfare is also lower.     

Consumption and labor supply

We present a new econometric model of aggregate demand and labor supply for the United States. We also analyze the allocation full wealth among time periods for households distinguished by a variety of demographic characteristics. The model is estimated using micro-level data from the Consumer Expenditure Surveys supplemented with price information obtained from the Consumer Price Index. An important feature of our approach is that aggregate demands and labor supply can be represented in closed form while accounting for the substantial heterogeneity in behavior that is found in household-level data. As a result, we are able to explain the patterns of aggregate demand and labor supply in the data despite using a parametrically parsimonious specification.     

Complete monotonicity of the representative consumer’s discount factor

A univariate real-valued function is said to be completely monotone if it takes positive values and alternate the signs of its higher order derivatives, starting from everywhere negative first derivatives. We prove that the representative consumer’s discount factor of a continuous-time economy under uncertainty is a power function of some completely monotone function of time satisfying certain boundary conditions if and only if it may be derived from a group of consumers having constant and equal relative risk aversion, and constant and yet possibly unequal discount rates.     

The New Keynesian Phillips curve with myopic agents

Empirical estimations of the New Keynesian Phillips curve support hybrid versions with a positive weight on lagged inflation and a weight less than one on expected inflation. We argue that myopic price setting of some agents explains the low weight on expected inflation. The lagged term can be explained by trend extrapolation if information about the future is costly. In a laboratory experiment we implement the Calvo (1983) microfoundations of the Phillips curve. Our hypotheses are supported by the experimental data. About half of the subjects set optimal Calvo prices while about a third is myopic.     

Co-employment of permanently and temporarily employed agents

One-shot interaction and repeated interaction often co-exist in the real world. We study possible behavioral effects of this co-existence in a principal-agent setting, in which a principal simultaneously employs a permanent and a temporary agent. Our experimental results indicate that there is “discrimination” between the two agents and that the available information for agents determines the extent of this discrimination, even though the theoretical solution of the game implies equal treatment of agents. Discrimination is, thus, a consequence of reciprocity. Agents that are discriminated against react negatively by withholding effort.     

New Keynesian monopolistic competition and objective demand

The New Keynesian model of monopolistic competition by Blanchard [Blanchard, O., Kiyotaki, N., 1987. Monopolistic competition and the effects of aggregate demand. American Economic Review 77 (4), 647–666] is reformulated according to an objective demand approach making the behavior of all agents fully rational. The revised model is compared with the original model in terms of prices, quantities and welfare. Working with the revised model enhances the validity of the menu-cost argument and, different from the original model, implies that price rigidity is increasing in market concentration.     

Policy change and learning in the RBC model

What is the impact of surprise and anticipated policy changes when agents form expectations using adaptive learning rather than rational expectations? We examine this issue using the standard stochastic real business cycle model with lump-sum taxes. Agents combine knowledge about future policy with econometric forecasts of future wages and interest rates. Dynamics under learning can have large impact effects and a gradual hump-shaped response, and tend to be prominently characterized by oscillations not present under rational expectations. These fluctuations reflect periods of excessive optimism or pessimism, followed by subsequent corrections.     

The effect of housing and stock market wealth on consumption in emerging and developed countries

This study examines the long- and short-run relationship between private consumption, housing wealth, stock market wealth and income. In order to asses this relationship empirically, we use pooled mean group estimators of dynamic heterogeneous panel data on a sample of 30 developed and emerging economies. The sample countries are segmented into three separate panels: a developed bank-based panel, a developed market-based panel, and an emerging bank-based panel. Empirical estimates support the existence of long- and short-run stock market wealth effects in both groups of developed countries, with the effect being particularly strong in the developed market-based countries. A moderate long-run housing wealth effect is confirmed only for the developed bank-based countries, while a very strong short-run housing wealth effect is present in the developed market-based countries. As far as the emerging countries are concerned, the evidence is somewhat inconclusive, but it does seem to suggest that both wealth effects are effective in the long run, with housing wealth being more dominant.     

Estimating willingness to pay for medicare using a dynamic life-cycle model of demand for health insurance

Medicare is the largest health insurance program in the US. This paper uses a dynamic random utility model of demand for health insurance in a life-cycle human capital framework with endogenous production of health to calculate the individual willingness to pay (WTP) for Medicare. The model accounts for the feature that the demand for health insurance is derived through the demand for health, which is jointly determined with the production of health over the life-cycle. The WTP measure incorporates the effects of Medicare insurance on aggregate consumption through effects on medical expenditures and mortality, and consumption utility of health. The model is estimated using panel data from the Health and Retirement Study. The average WTP or change in lifetime expected utility resulting from delaying the age of eligibility to 67 is found to be $ 24,947 in 1991 dollars ($ 39,435 in 2008 dollars). However, there is considerable variation in the WTP, e.g., in 1991 dollars the WTP of individuals who have less than a high school education and are white is $ 28,347 ($ 44,810 in 2008 dollars), while the WTP of those with at least a college degree and who are neither white nor black is $ 15,584 ($ 24,635 in 2008 dollars). More generally, the less educated have a higher WTP to avoid a policy change that delays availability of Medicare benefits. Additional model simulations imply that the primary benefits of Medicare are insurance against medical expenditures with relatively smaller benefits in terms of improved health status and longevity. Medicare also leads to large increases in medical utilization due to deferring of medical care prior to eligibility.     

Chain indices of the cost-of-living and the path-dependence problem: An empirical solution

This paper proposes a new method for estimating true cost-of-living (Konüs) indices, for large numbers of commodities, using data only on prices, aggregate budget shares and aggregate expenditure. Conventional chain indices are path-dependent unless income elasticities are (implausibly) all equal to 1. The method allows this difficulty to be overcome. I show that to estimate a Konüs index, only income and not price elasticities are required. The method is applied to estimate a Konüs price index for 70 products covering nearly all the UK's Retail Prices Index over 1974–2004, using the Quadratic Almost Ideal Demand System. The choice of base year for utility has a significant effect on the index.     

Introduction to internally consistent modeling,aggregation, inference,and policy

This special issue of the Journal of Econometrics honors William A. Barnett’s exceptional contributions to unifying economic theory with rigorous statistical inference to interpret economic data and inform public policy. It is devoted to papers that advance microeconometrics, macroeconometrics, and financial econometrics to build models to interpret evidence.     

Global identification of risk preferences with revealed preference data

The concept of parameter identification (for a given specification) is differentiated from global identification (which specification is right). First-order conditions for production under risk are shown to admit many alternative specification pairs representing risk preferences and either perceived price risk, production risk, or the deterministic production structure. Imposing an arbitrary specification on any of the latter three determines which risk preference specification fits a given dataset, undermining global identification even when parameter identification is suggested by typical statistics. This lack of identification is not relaxed by increasing the number of observations. Critical implications for estimation of mean-variance specifications are derived.