Answered: How does the life cycle and the…

How does the life cycle and the permanent income hypothesis resolve the seemingly contradictory pieces of evidence regarding consumption behaviour?

Economics (MindTap Course List)

13th Edition

ISBN:9781337617383

Author:Roger A. Arnold

Publisher:Roger A. Arnold

Chapter8: Aggregate Demand And Aggregate Supply

Section: Chapter Questions

Problem 8QP

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How does the life-cycle and permanent-income hypotheses resolve the seemingly contradictory pieces of evidence regarding consumption behaviour?
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This question has two parts and concerns the permanent income hypothesis. Which statement best defines the permanent income hypothesis? Consumer spending depends on the level of disposable income that people expect to have over the course of their lifetime. When in a recession, although current consumer spending can be observed, future consumer spending cannot be predicted due to an unknown number of people leaving their temporary recession jobs for higher‑paying, permanent jobs that better fit their skills. Consumer spending depends on both the income and wealth of people in the economy. Consumer spending is proportional to the ratio of people in stable full‑time employment (that is, with "permanent" income) and people in unstable part‑time employment (that is, with "temporary" income). According to the permanent income hypothesis, which situations would result in an immediate increase in consumer spending, which would result in an immediate decrease in consumer spending,…