Must-Read: Matthew Shapiro: How Economic Shocks Affect Spending

W Must-Read: Matthew Shapiro: How Economic Shocks Affect Spending:

Many consumers do not follow the standard advice by having a substantial cash buffer. Nonetheless, they are able to smooth consumption in the face of a temporary drop in income by changing their timing of payments….

The tax rebates of 2001 and 2008, the 2009–10 tax credit, and both the onset and expiration of the 2011–12 payroll tax holiday… have some strong common features…. the implied marginal propensity to consume (MPC) is between one-quarter and one-third… a non-negligible effect on aggregate spending…. The most common response to receiving extra income is to pay off debt. From the standpoint of aggregate demand, saving a rebate or using it to pay off debt…. To the extent that a fiscal stimulus results from an economic downturn where consumers are cutting back spending because of a debt overhang—as was certainly the case in 2008 and its aftermath—it is not surprising that consumers use a tax rebate for balance sheet repair…. There is no evidence that the MPC from tax rebates or temporary tax cuts varies with income…