A Test of the Permanent-Income Hypothesis: Comment

Abstract

In a recent article in this Journal, Prem Laumas (1969) proposes a new test, which has been repeated elsewhere by Laumas and Mohabbat (1972), of Friedman's permanent-income hypothesis (PIH), using Canadian national income data. He concluded that this hypothesis should be rejected. In the present paper, we shall demonstrate that Laumas's test is invalid on both a theoretical and empirical basis. In the Laumas model, it is possible to test seven assumptions which constitute Friedman's hypothesis. In fact, five of Friedman's seven assumptions are violated in Laumas's tests of the remaining two. Thus, even if Laumas's theoretical analysis were saisfactory, it could not be used to reject Friedman's theory. Moreover, Laumas's empirical evidence suffers from one major and one minor defect. Finally, we present a rigorous direct test of Friedman's hypothesis which violates none of the PIH assumptions using exactly the same Canadian national income data as used by Laumas, except that our data will be deflated. This direct test leads to a rejection of the PIH when consumption is defined to include consumer-durable expenditures. However, when consumption is defined to exclude such expenditures, this part of Friedman's theory is not easily rejected on the basis of the Canadian evidence. This result is in sharp contrast to Laumas's claim and to that obtained from the United States evidence previously reported by Holmes (1970).