The Persistence Of Macroeconomic Shock Effects on Russian Household Consumption Yana Yushkina

Question How do macroeconomic crises affect household consumption of food items, non-food items, and durables in Russia? Magnitude Persistence Financial crisis of 2007–2009 had a profound effect on consumer confidence around the world, resulted in a significant decline in economic activity, business failures and layoffs. In order for the economy to get back to “normal” businesses need to resume their activity. However, businesses will not do so to the full extent until consumers regain confidence. For that very reason it is important to know precisely how much crises such as this one affect consumption and how long it takes for consumers to decide that a crisis is temporary. Consumers are not always adept at quickly distinguishing whether the effects of a particular crisis will persist or not. Why Russia? In a transition economy such as Russia, consumer pessimism and increased economic uncertainty may make a consumer more likely to adapt his consumption patterns even after a temporary shock. For that reason the effects of crises on consumption in transition economies may be magnified and thus more easily discernible.

Motivation Example of 2007-2009 crisis Economic Slowdown ↓ Consumer Confidence Example of 2007-2009 crisis Important to know how consumption is affected Permanent or temporary effect? Amplification of effect in transition economies As we saw recently, the financial crisis of 2007–2009 had a profound effect on consumer confidence around the world, resulted in a significant decline in economic activity, business failures and layoffs. In order for the economy to get back to “normal” businesses need to resume their activity. However, businesses will not do so to the full extent until consumers regain confidence. For that very reason it is important to know precisely how much crises such as this one affect consumption and how long it takes for consumers to decide that a crisis is temporary. Consumers, on the other hand, are not always adept at quickly distinguishing whether the effects of a particular crisis will persist or not. In a transition economy such as Russia, consumer pessimism and increased economic uncertainty may make a consumer more likely to adapt his consumption patterns even after a temporary shock. For that reason the effects of crises on consumption in transition economies may be magnified and thus more easily discernible.

Russia’s GDP

Household Consumption in Russia

Recent trends

Theory Modigliani and Brumberg (1954) Friedman (1957) Intertemporal utility maximization Friedman (1957)

Consumption Smoothing Literature Common approaches Empirical estimation Instrumenting for permanent income Response to predictable changes in income Another approach Unpredictable exogenous shock effects Stillman (2003), Skoufias (2003) My contribution Consumption smoothing behavior has been widely studied both in the context of developed and developing countries. There are three major approaches to this issue. Alderman and Paxson (1994) and Deaton (1997) offer an example of the first approach. They focus empirically on the estimation of the Euler equation resulting from intertemporal utility maximization.  This approach requires strong assumptions about household preferences, the income generating process, and liquidity constraints.  A second approach is to directly instrument for permanent income based on assets, education and other factors.  The issue with this approach is that these instruments may be correlated to the marginal utility of consumption.  The third approach is to study the response of household consumption to predictable changes in income such as those due to retirement.  Seldom used approach: There are only a few papers - Cochrane (1991), Paxson (1992) - which examine the effects of unpredictable exogenous shocks on household consumption. Stillman (2003) and Skoufias (2003) focus specifically on the Russian context with that regard. Skoufias (2003) studies households’ ability to protect themselves from risk by analyzing their changes in consumption. Stillman (2003) estimates the magnitude of consumption response to exogenous shocks.

Data Russia Longitudinal Monitoring Survey (RLMS) Contains information about household- level expenditures, income, and demographic characteristics Covers1992-2007 The RLMS is a household based representative survey of Russia conducted by the University of North Carolina.  Available from 1992 – 2007, data from ’92 to ‘beg. ‘94 is different, cannot be aggregated with later data

Methodology Run panel regressions on different types (f,nf,d) of consumption as well as aggregate consumption Expect durables to be more affected ln Ch,t = β1 ln Ch,t-1 + β2 ln Yh,t + β3 ln Yh,t-1 + β4 MacroVart + β5 Household Characteristicsht + β6 Crisist * ln Yh,t + β7 Crisist-1 * ln Yh,t + β8 Householdh + β9 Yeart +εh,t h indexes households, and t is the year of the observation.

Issues Dynamic panel bias

Special thanks to Prof. Alpanda and Prof. Barbezat! It must be noted that the data that I have available is not recent enough to cover the current crisis so I will be making predictions about recent events based on prior events rather than analyzing the effects of the current crisis directly.