Empirical demand systems incorporating intertemporal consumption dynamics

This article presents and estimates demand systems by explicitly incorporating intertemporal consumption behavior as summarized by the Euler equation. Demand systems are characterized by two indirect utility functions which are effectively globally regular and can better approximate nonlinear Engel curves. Furthermore, an exact and nonlinear Euler equation is derived without a log approximation. This equation is estimated jointly with the demand functions by a careful implementation of the orthogonality conditions using generalized method of moments. We illustrate the techniques by estimating the demand system and Euler equation for Australian aggregate data. Results generally indicate that the proposed methods are promising. The estimated rate of time preference is fairly small while the restrictions producing the moment equations are not rejected. Estimated Frisch price elasticities, which are relevant in an intertemporal setting, appear reasonable, and the intertemporal elasticity of substitution for consumption is found to be small, which are consistent with the findings in earlier studies. Copyright Springer-Verlag 2013