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Applied Econometrics Project--------Exchange rates and commodity price:the case of America Agriculture exports - Dissertation Example

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Estimating the marginal propensity to consume and interest dependence of consumption in the uk Vs the US Course project prepared within the EC3064 module Applied Econometric Project {Enter the date here in the format DD/MM/2011} If appropriate, enter any acknowledgement or disclaimer here; OTHERWISE DELETE executive summary Marginal propensity to consume can be defined as the incremental change in consumption that results from a change in income…
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Applied Econometrics Project--------Exchange rates and commodity price:the case of America Agriculture exports
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Download file to see previous pages Particularly, we look at Keynesian consumption theory (Keynes,1936), Relative Income hypothesis, (Duesenberry, 1948), the Life-cycle hypothesis (Modigliani and Brumbergh, 1955) and the Permanent Income Hypothesis (Friedman, 1956) to develop an understanding of what to expect when we start exploring the data. Initial OLS estimates of US and UK data exhibit proof for the Keynesian ideas. The marginal propensity to consume does seem to be positive yet smaller than unity. However, we also find the real rate of interest has significance in contrast to Keynes’ ideas. Possibility of spurious estimates is considered and an error correction methodology is adopted utilizing the Engle and Granger (1987) method. We find the rate of interest looses significance after the error correction mechanism is used. Finally, the measurement error argument is considered and the Permanent Income Hypothesis is considered. We estimate the elasticity of consumption under the permanent income hypothesis using the adaptive expectations methodology. Support for the hypothesis is obtained both in case of the US and the UK. Actual income elasticities turn out to be bigger in the UK but permanent income elasticities are relatively smaller. We conclude that these results have significant bearing for Fiscal policy. The impact of temporary tax cuts will not be as influential as would be predicted given previous estimates of the Keynesian consumption function. However, if Fiscal policies can target permanent incomes, then these can have substantial impacts. 1. Introduction Marginal propensity to consume is can be defined as the incremental change in consumption that results from a change in income. That is, the increase in consumption if there is a unit increase in incomes is known as the marginal propensity to consume. This paper explores the marginal propensities to consume in the US and UK economies. Essentially, the validity of the Keynesian theory of consumption is the focal point. The significance of the theory lies in the degree of efficacy of income tax policies. If there is a high Marginal Propensity to Consume, then tax cuts will significantly increase consumer spending in aggregate. Tax increases similarly will substantially reduce aggregate consumption expenditure. We shall first do a review of the fundamentals of Keynesian consumption theory and look at the developments this theory has undergone since its inception. Particularly, we shall look at Keynes (1936), Duesenberry (1948), Modigliani and Brumbergh (1955) and Friedman (1956) to develop an understanding of what to expect when we start exploring the data. Then, we shall proceed to estimate the marginal propensity to consume first under the hypothesis of the consumption function postulated by Keynes. Then noting possible shortcomings, we shall move forward by correcting these problems and reformulating the central hypothesis before re-estimating. We shall use data from the US and UK economies to derive our conclusions. The fundamental contribution of this paper is likely to emerge in its estimation of the relationships with a data set that is updated until the early months of 2011. Additionally, the study is likely to reveal some interesting contrasts between the UK and US economies. We ...Download file to see next pagesRead More
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