A PERMANENT INCOME MODEL OF PUBLIC CONSUMPTION

This paper tests the permanent income hypothesis (PIH) for public cons umption. Unlike private agents, a government is a representative natio nal, infinitely-lived agent that usually faces no liquidity constraint s. Thus, the expectation is that the PIH restrictions should not be re jected for public consumption. However, using U.S. data, the paper is unable to find evidence supporting the permanent income model of publi c consumption. Public consumption is found to be sensitive to lagged p ublic income and too smooth relative to permanent public income. The r esults therefore cast doubt on the characterization of the public sect or as a social welfare optimizing agent.