Sunday, July 20, 2014

Allen Iverson and many NBA players offer a Test of the Permanent Income Hypothesis

NBA basketball players know their age, their contract's terms and the likely length of their playing career, and they can form a good guess of their post-career earnings.  Why isn't this information sufficient for planning one's lifetime consumption so that one saves while earning the high salary and lives off the savings when the player is retired and middle aged? Wouldn't Milton Friedman view such players' upfront earnings profiles as offering a good test of his permanent income/life cycle theory of consumption?

There are investment markets that allow for income smoothing over time such that if you earn a lot of $ while young and will earn nothing while old that you can have  a very good lifetime consumption flow.   When we see cases such as the consumption dynamics of Allen Iverson,  what do we conclude?  Does the NBA self select a set of people with hyperbolic preferences?    What share of NBA players have consumption paths that resemble Iverson?   We know we can augment the consumption model to include altruism for one's extended family (his 50 person entourage) or to include Keeping up with the Jones (showing off "bling") --- must these factors be included to explain NBA player spending patterns?   What % act as if they are following Friedman's standard consumption rules?