Labour supply, consumption and saving over the life cycle

Abstract

Introduction As we discussed in chapter 1, for many purposes in the analysis of public policy it is necessary to consider households over their entire life cycle. In this chapter, we first survey the existing literature on life cycle models, examining how extensions to the basic Fisherian model of intertemporal consumption choice have been developed to try to explain why consumption tends to track income to a much greater extent than is predicted by this model. We then go on to widen the scope of the discussion by developing a model of the ‘family life cycle’, which seeks to integrate the analysis of consumption and saving with that of time allocation in multi-person households. We present a simple formal model and then go on to combine time-use data with data on consumption and saving to present an empirical picture of the life cycle that differs considerably from that on which the models in section 5.2 are based. It emphasises the effect of fertility decisions on female labour supply as a major determinant of changes in household income, consumption and saving over time. Life cycle models The basic microeconomic foundations for models of consumer saving and consumption over the life cycle are provided by the neo-classical model of intertemporal choice formulated by Irving Fisher. This can be viewed as a version of the standard initial endowments consumer model introduced in chapter 2.