Time preference and savings behaviour

ABSTRACT

A number of studies have examined various determinants of savings rate. This article contributes to this literature by empirically testing whether the time preference (discounting behaviour) is another important determinant of savings rate. To this end, we estimate the hyperbolic Euler equation using the generalized method of moments (GMM) to examine whether the short-run discount factor can account for savings behaviour. The empirical results show that people exhibit short-run patience (impatience) when savings rate increases (decreases), which is in line with the theoretical prediction. This result implies that the time preference also plays an important role in determining savings behaviour. Various sets of instruments and different sample periods do not reverse the main finding.

KEYWORDS:

• Savings rate
• hyperbolic Euler equation
• short-run patience
• GMM estimation

JEL CLASSIFICATION:

• D91
• E21

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

¹ They include substantial drop in consumption at retirement, accumulation of illiquid assets instead of liquid assets, etc. See Laibson (1997; 1998) for more examples.

² Krusell, Kuruşçu, and Smith (2002) call hyperbolic preferences quasi-geometric preferences.

³ We skip the model description to reduce space. For those who are interested in the model and derivation of the hyperbolic Euler equation (HEE), see Harris and Laibson (2001).

⁴ Following Ahumada and Garegnani (2007), we use the average propensity to consume (APC) as a proxy for marginal propensity to consume.

⁵ Yogo (2004) uses nominal interest rates and inflation as instruments when estimating the Euler equation.

⁶ Estimates may shift to explain the different trends in savings rate unless variables in the model can account for those trends. The interest rate (APC) in Equation 1 tracks savings rate positively (negatively), implying that the choice of two samples based on the different trends in savings rate is appropriate.

⁷ Including any policy change that affects different discounting behaviours in different samples is important. Laibson (1997, 1998) argue that financial innovation such as credit cards has been a cause of ongoing decline in US savings rate since the 1980s. Hence, we also include data on credit cards (value of credit card transactions) as an additional variable when estimating the HEE for Period 2. The data are taken from Credit Finance Association of Korea and converted into the quarterly data using the cubic-match interpolation method. The starting year of data is set at 1990 due to data availability.

⁸ The savings rate has a peak of 42.5% in 1988:1 and then declines.