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Econ: What is Permanent Income? 0 Views


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What is Permanent Income? Formulated as a hypothesis in the late 1950s by economist Milton Friedman, Permanent Income is a theory predicated on the habits of people to adjust their spending habits in accordance with long term projected income expectations, regardless external factors, and that increased savings only occurs when earnings are higher than anticipated.

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Transcript

00:00

And finance Allah shmoop What is permanent income Oh win

00:07

the lottery tap into a trust fund inherit the throne

00:11

of some obscure but enormously wealthy country achieved tenure at

00:15

some prestigious university Or maybe just get elected to the

00:19

U S Senate Those situations cover one concept of a

00:22

permanent income income that will be coming in forever no

00:26

matter what you do In economics though the concept is

00:28

more particular It's used to explain consumer spending patterns called

00:33

the permanent income hypothesis The model assumes that a person

00:36

will spend money according to what they think they're long

00:39

term Average income will be In other words people get

00:42

an idea in their head about how much they're likely

00:45

to make going forward like off into the way distant

00:48

future And that expectation then drives their spending activity So

00:52

you're an economist we know dare to dream But you're

00:55

not just a run of the mill On the one

00:58

hand and on the other hand type of economists you're

01:00

a very confident economist Brash brazen impertinence You just graduated

01:05

last in your class from Jacksonville Online Economic Technical Institute

01:10

and Culinary Academy I'll steal You are one hundred percent

01:13

without a doubt Definitely convinced you're one day going to

01:16

win that million dollar Nobel Prize in economics You're positive

01:20

you're gonna win that dough someday Yeah So by permanent

01:24

income theory you count that number in your permanent income

01:27

Well you're twenty three now fresh out of Jackie Con

01:30

tech and cool average life spans about seventy nine years

01:33

That gives you about fifty six years to go divide

01:35

a million bucks by fifty six And that's Ah seventeen

01:39

grand dish extra that you Khun spend each year Well

01:43

you'll have to borrow the money for now at least

01:45

until you get a call from Sweden Another example You

01:48

work in a factory that makes leashes and collars They're

01:51

for pet ducks You make fifty grand a year Is

01:53

a quality control inspector in the RND department You spend

01:56

your days out back by the scientifically designed man made

02:00

lake leading ducks along with the experimental leashes You assume

02:04

you'll keep this basic salary for the foreseeable future Well

02:07

under the permanent income hypothesis is you've assumed a permanent

02:10

income is fifty grand You'll spend up to that level

02:13

but not beyond that level Now you get some weird

02:16

news You're eccentric Uncle decides he wants to give away

02:19

his worldly belongings and move to a Buddhist commune in

02:22

Mongolia Your share Five grand Okay so this particular year

02:26

you brought in fifty five thousand right You've got your

02:29

usual fifty grand for your job the ducklings factory and

02:32

an additional one time bonus amount of five grand from

02:34

your uncle Well someone supporting the permanent income hypothesis would

02:38

expect you to save the five grand from your uncle

02:41

You know the five thousand dollars a one time bonus

02:43

Your uncle has moved to the Buddhist com unit Doesn't

02:45

have any more money to give away You don't have

02:48

any other sickly or weird uncles Point is the five

02:51

grand gift is not likely to repeat your perception of

02:55

your long term permanent income has not changed You still

02:58

expect to earn fifty grand a year long term So

03:00

you socked away the five grand you know for a

03:02

rainy day Okay well then next year comes along and

03:05

you get a promotion You're now head of the duck

03:07

collar quality control department Your salary rises to eighty five

03:11

thousand dollars and your expectations rise as well You assume

03:15

you'll be head of the department or better forever least

03:18

for the foreseeable future You don't say the additional thirty

03:20

five grand in salary You're happy to spend it You

03:23

trade in your Yaris that thing or Prius Maybe for

03:26

a Cadillac and you skipped the five dollar wine rack

03:29

for stuff in the twenty dollar I'll your new assumed

03:32

permanent income has changed Now you perceive eighty five thousand

03:36

dollars as your permanent income or income level so you

03:39

spend it accordingly Then you buy a diamond collar for

03:42

your own pet duck Yeah maybe a little extravagant even

03:45

for an eighty five thousand dollars a year employee But

03:47

well you did get to use your employee discount so 00:03:50.93 --> [endTime] you know it's a bargain

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