Estimating Consumption Function under Permanent Income Hypothesis: A Comparison between Nigeria and South Africa

The aim of this study was to estimate the consumption function of Nigeria and South Africa under the Permanent Income Hypothesis using a time series data on final household consumption expenditure, real GDP and real interest rate from 1980 to 2013. The study estimated parameter MPC long run time series employing Cagan’s adaptive expectation model. The result shows exist of a long run relationship between consumption and income for the two countries. Data for Nigeria suggested that the behavior of consumers in Nigeria is forward looking in the sense that their consumption behavior is based on expected future income while in case of South Africa, the study showed that past consumption has effect on current consumption as posited by Duesenberry in the Relative income hypothesis in South Africa. Moreso, it was revealed that the behavior of consumers in South African is also forward-looking although not as much as Nigerians. The policy implication of these findings is that the impact of government policy of tax reductions will be greater on consumption if such a policy is perceived by consumers as permanent. Thus, a tax cuts aimed at the bottom of the income distribution are likely to be more expansionary than tax cuts aimed at the top.