Assimilation Costs, Consumer Optimization, and the Time-Series Consumption Function

In a zealous attempt to explain away the measured income hypothesis, neoclassical economists have assumed an imaginary world-a world where all infonnation is known and free to assimilate; a world that exists only in the minds of economic theorists. In this paper, it is shown that assimilation costs can cause consumers to ignore new infonnation. If information is temporarily ignored, consumption may be approximated by a moving average of current and past income. Family data from Michigan's Panel Study of Income Dynamics are used to test the model against the random walk for consumption hypothesis. Background The idea that consumption is a function of income is an important component of any Keynesian macroeconomic model. The multiplier implied by a measured income hypothesis explains why changes in investnent spending cause large fluctuations in private spending and how moderate changes in fiscal policy can result in major income changes. Given the policy implications of the measured income hypothesis (unstable private spending and potentially stabilizing fiscal policy), it is understandable why the hypothesis has been continuously attacked by neoclassical economists.' A new attack on the measured income hypothesis has been launched