Christina H. Paxson

This paper examines whether the observed cross-country correlation between aggregate saving rates and economic growth can be explained by models in which higher growth increases saving rates, rather than the other way around. The paper focusses on two explanations of why growth might increase saving. First, standard life-cycle theory implies that higher growth will increase the life- time wealth of younger savers relative to older dissavers, thereby increasing the aggregate saving rate. Second, models of consumption with habit formation imply that consumption responds slowly to unexpected income growth, and so unanticipated growth can produce a higher saving rate at least in the short run. I assess the validity of these explanations using time-series of cross-sections of household income and consumption surveys from four countries: the US, Britain, Taiwan and Thailand. I find that although in three out of the four countries there is evidence that saving behavior is consistent with life-cycle theory, there is simply too little life-cycle saving for higher growth to have a large effect on the aggregate saving rate. The habit formation model also implies very small effects of growth on saving rates. A large portion of the observed cross-country correlation between saving and growth cannot be explained by these models.

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