Policy uncertainty and household savings

This paper uses German micro data and a quasi-natural experiment to provide new evidence on the empirical importance of precautionary savings. Our quasi-natural experi- ment draws on a sharp increase in uncertainty (as reported in a survey of German citizens) observed in the run-up to the 1998 general election. Our estimates are obtained from a di¤- in-di¤ estimator and thus overcome the identi…cation problem that often a¤ects measures of precautionary savings. We …nd that household saving increases signi…cantly following the increase in uncertainty about the future path of income, suggesting a signi…cant pre- cautionary savings motive. We also analyze households’response in terms of labor market choices: we …nd evidence of a labor supply response by workers who can use the margin o¤ered by part-time employment. While independent of the reasons why uncertainty in- creased in the run-up to the election, our results are suggestive of the economic e¤ects of "wars of attrition", i.e. situations in which reforms are delayed because political parties are unable to agree on how the burden of a reform should be shared between various groups in society. Delays in adopting a reform, or the possibilty that a reform, after it has been adopted by one government might be revoked by another, raise uncertainty and induce households to save more: consumption may fall and the economy might slow down for no other reason than political uncertainty