Econometric Modelling of Income-consumption Relationship: Evidence from Nigeria

Abstract

This paper seeks to empirically verify the dynamic relationship between consumption expenditure and income in Nigeria by experimenting with two major income hypotheses, the habit persistence and permanent income hypotheses. The major research question centred on which of the consumption theories best describe the relationship between consumption and income in Nigeria? Time series data on per capita personal consumption expenditure (PPCE) and per capita disposable income (PPDI) in Nigeria for the period 1980 – 2014 were used. The result of the AR(p) time series estimation showed the weak existence of habit formation by Nigerian consumers. The speed of the short-run adjustment of consumption expenditure to changes in disposable income is 0.5569, which is averagely high; an indication that consumption habits are quickly adjusted to changes in disposable income. Due to the high level of poverty, unemployment and low standard of living, consumers in Nigeria find it difficult to form a consumption habit for long. Modelling consumption along the assumptions of Permanent income hypothesis; the results of the ARDL bound testing cointegration showed that the long-run multiplier effect of marginal propensity to consume out of permanent income is 0.2953; an indication that consumers save more than spend.  This also implies that Nigerians on the average have a low permanent income and a higher transitory income which does not affect consumption according to the assumption of Permanent Income of hypothesis. The study therefore recommends that policies towards reducing the rate of unemployment and alleviate poverty in the Nigeria economy should be put in place to encourage good consumption habits.