Estimating Individual Responses when Tomorrow Matters

Abstract

We propose an approach to estimate how individuals' expectations influence their responses to a counterfactual change. The approach relies on average partial effects, which recover counterfactual impacts under conditions that we specify. We propose a three-step estimation method that relies on panel data on subjective expectations. We illustrate our approach in a model of consumption and saving, focusing on the impact of an income tax that not only changes current income but also affects beliefs about future income. Applying our approach to Italian survey data, we find that individuals' beliefs matter for evaluating the impact of tax policies on consumption decisions.