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Can Tax Rebates Stimulate Consumption Spending in a Life-Cycle Model? †

Can Tax Rebates Stimulate Consumption Spending in a Life-Cycle Model? † Abstract We build a life-cycle model with earnings risk, liquidity constraints, and portfolio choice over tax-deferred and taxable assets to evaluate how household consumption changes in response to shocks to transitory anticipated income, such as the 2001 income tax rebate. Households optimally invest in tax-deferred assets, which are encumbered by withdrawal penalties, and exchange taxable precautionary savings for higher after-tax returns. The model predicts a higher marginal propensity to consume out of a rebate than is predicted by a standard frictionless life-cycle model. Liquidity-constrained households—with few financial assets or portfolios expensive to reallocate—consume a higher fraction of the rebates. (JEL D91, E21, G11, H24 ) http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png American Economic Journal: Macroeconomics American Economic Association

Can Tax Rebates Stimulate Consumption Spending in a Life-Cycle Model? †

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Publisher
American Economic Association
Copyright
Copyright © 2014 by the American Economic Association
Subject
Articles
ISSN
1945-7715
eISSN
1945-7715
DOI
10.1257/mac.6.1.162
Publisher site
See Article on Publisher Site

Abstract

Abstract We build a life-cycle model with earnings risk, liquidity constraints, and portfolio choice over tax-deferred and taxable assets to evaluate how household consumption changes in response to shocks to transitory anticipated income, such as the 2001 income tax rebate. Households optimally invest in tax-deferred assets, which are encumbered by withdrawal penalties, and exchange taxable precautionary savings for higher after-tax returns. The model predicts a higher marginal propensity to consume out of a rebate than is predicted by a standard frictionless life-cycle model. Liquidity-constrained households—with few financial assets or portfolios expensive to reallocate—consume a higher fraction of the rebates. (JEL D91, E21, G11, H24 )

Journal

American Economic Journal: MacroeconomicsAmerican Economic Association

Published: Jan 1, 2014

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