Consumption Inequality and Income Uncertainty

This paper places the debate over using consumption or income in studies of inequality growth in a formal intertemporal setting. It highlights the importance of permanent and transitory income uncertainty in the evaluation of growth in consumption inequality. We derive conditions under which the growth of variances and covariances of income and consumption can be used to separately identify the growth in the variance of permanent and transitory income shocks. Household data from Britain for the period 1968–1992 are used to show a strong growth in transitory inequality toward the end of this period, while younger cohorts are shown to face significantly higher levels of permanent inequality.