PATTERNS OF HOUSEHOLD CONSUMPTION IN VIETNAM

PATTERNS OF HOUSEHOLD CONSUMPTION IN VIETNAM

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VIETNAM – NETHERLANDS PROJECT FOR MASTER DEGREE ON

ECONOMICS OF DEVELOPMENT

PATTERNS OF HOUSEHOLD CONSUMPTION

IN VIETNAM

A thesis presented byCao Thi Thuy Hang

Supervisor

Dr NGO HUY DUC

IN PARTIAL FULFILLMENT OF THE REQUIREMENTS FOR OBTAINING

THE DEGREE OF

MASTER OF ARTS IN ECONOMICS OF DEVELOPMENT

Hanoi, 2006

First of all, I would like to thanks the Vietnam-Netherlands project for providing me the opportunity toparticipate in this course, in which I have received many benefits in terms of knowledge, approach andmethodology of doing research

I wish to express my since thanks to my supervisor, Dr Ngo Huy Duc for his patient attention,guidance and precious advice His assistance helped me overcome difficulties and encourage me duringthe period of writing this thesis

I am indebted to Dr Adam Mc.Carty and Prof., Dr.Sc Vu Thieu for their efforts in running the Projectand their strict disciplines toward writing a thesis Their advice would still accompany with my life and

my career in the future

My thanks are also sent to all my teachers in the Vietnam-Netherlands Project for Master Program inEconomics of Development for their enthusiastic supports

I also wish to express my appreciation for the assistance of the project staffs; all my friends andclassmates who helped me fulfill this thesis

Finally, I would like to thank my family for their understanding and support during the thesispreparation process

TABLE OF CONTENTS

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CHAPTER 1: INTRODUCTION 1

1.1 The relevance of the thesis 1

1.2 Focus and scope of the thesis 2

1.3 Methodology 3

1.4 Data sources 3

1.5 Structure of the thesis 3

CHAPTER 2: THEORETICAL FRAMEWORK 5

2.1 Concepts and definitions 5

2.1.1 Household 5

2.1.2 Consumption 6

2.2 Consumption theories 6

2.2.1 Keynes’ consumption function 6

2.2.2 Fisher’s intertemporal choice model 8

2.2.3 Modigliani’s life-cycle hypothesis 10

2.2.4 Friedman’s permanent-income hypothesis 13

2.2.5 Hall’s random-walk hypothesis 15

2.3 Empirical study review 16

2.4 Chapter remarks 18

CHAPTER 3: AN OVERVIEW OF HOUSEHOLD CONSUMPTION IN VIETNAM 20

3.1 Characteristics of household in Vietnam 20iii

3.2 Household consumption in Vietnam in 2002 21

3.2.1 Household consumption by household income 21

3.2.2 Household consumption by region and quintiles 22

3.2.3 Household consumption between urban and rural area 24

3.2.4 Household consumption by household size and number of children 25

3.2.5 Household consumption by household head’s education 26

3.2.6 Household consumption and head’s age and gender 27

3.2.7 Household consumption by occupation of household head 29

3.3 Chapter remarks 29

CHAPTER 4: MODEL SPECIFICATION AND EMPIRICAL RESULTS 31

4.1 Model specification 31

4.1.1 Econometric formulation 31

4.1.2 Variables 32

4.1.2.1 Dependent variable 32

4.1.2.2 Explanatory variables 32

4.2 Data and estimation procedure 36

4.2.1 Data description 36

4.2.2 Estimation procedure 39

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4.3 Estimation results 39

4.4 Chapter remarks 44

CHAPTER 5: CONCLUSIONS AND RECOMMENDATIONS 45

5.1 Conclusions 45

5.2 Recommendations 46

5.3 Limitations and suggestion for further studies 47

Bibliography 48

Appendix 51

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LIST OF TABLES

Table 3.1: Household consumption and HH income by quintiles (’000 VND/year) 22

Table 3.2: Household consumption by regions and quintiles (’000 VND/year) 23

Table 3.3: Household consumption by rural/urban and consumption quintiles (’000 VND/year) 24

Table 3.4: Household head’s number of schooling year by consumption quintiles 27

Table 3.5: Age of household head by consumption quintiles 27

Table 3.6: Household consumption by head’s gender and consumption quintiles

Figure 1.2: The consumer’s budget constraint 10

Figure 1.3: The life-cycle hypothesis of consumption 11

Figure 1.4: The Life-cycle consumption functions 12

Figure 1.5: Household consumption and permanent income 15

LIST OF APPENDIXES Appendix 3.1: Household consumption by number of schooling year 51

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Appendix 3.2: Household consumption by household size 52

Appendix 3.3: Household consumption by number of children 53

Appendix 4.1: Regions classification in the data set 54

Appendix 4.2: Urban and rural classification 55

Appendix 4.3: Variable definition 56

Appendix 4.4: Estimation of full model 57

Appendix 4.5: Estimation of reduced model 58

Appendix 4.6: Analysis of correlation among variable 59

Appendix 4.7: Test normality of residual 60

Appendix 4.8: Other usual tests 61

ABBREVIATIONS

ADB Asian Development Bank

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APC Average propensity to consume

CPI Consumer Price Index

GDP Gross Domestic Product

GNP Gross National Product

GSO General Statistic Office

LCH Life-cycle hypothesis

MPC Marginal propensity to consume

MSE Residual Mean Square

OLS Ordinary Least Square

PIH Permanent income hypothesis

P-|t| Associated p-value

SOE State-owned enterprise

Std.Dev Standard Deviation

UNDP United Nations Development Program

VHLSS Vietnam Household Living Standard Survey

VLSS Vietnam Living Standard Survey

VND Vietnamese Dong

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CHAPTER 1 INTRODUCTION

“Consumption is the sole end and purpose of all production”

Adam Smith

-1.1 THE RELEVANCE OF THE THESIS

In any society, one of the ultimate objectives of the economic system is to deliver goods and services toits members The success of an economy can be measured by its ability to provide for its people, to feedthem, to clothe and shelter them, and to offer them access to good health, to education and to a widerange of consumer goods (Deaton and Case, 1987) Based on such things, to evaluate the prosperity andsocial welfare of an economy, consumption is the most appropriate measurement

At macro level, consumption, or more precisely aggregate consumption, is a major component ofaggregate demand or so-called gross national product (GNP) It runs about 65 percent of GNP in theUnited States (Branson, 1989) and even higher in many developing counties, accounted for about threefourth of annual GNP (Deaton, 1997) Because of its significance, consumption becomes direct orindirect target of many economic polices such as demand stimulating policy, other fiscal policies andnational programs

With respect to consumer behavior at micro level, household consumption is also of interest Patterns ofconsumption within the budget constrain are important in examining the structure of household activity,while the amounts consumed of various goods, particularly foodstuffs, are usually used in determiningnutritional status, health and life-expectancy, which in turn results in the quality and quantity of humanresource in the economy

Considered to be one of the most successful economies in transition, Vietnam has experienced highgrowth rate of about 8 percent annually (GSO, 1998) Consequently, a large number of poor householdhave been escaped from poverty and living standard has much improved A decade ago, 58 percent ofthe population had an expenditure level that was insufficient to support a healthy life but this figure hadfallen to 29 percent by 2002 (Rama, 2004)

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To measure of these changes in Vietnamese living standards, consumption is used extensively andtaken an important component of human welfare In much of the World Bank’s operational work aswell as in applied research, consumption constructed from survey data have been used to measurepoverty, to analyze changes in living standards over time, and to assess the distributional impacts ofvarious programs and policies in Vietnam.

Although there were a great number of researches attempting to analyze and evaluate different aspects

of poverty in Vietnam by using VLSS 1992 and VLSS 1998 data sets, less work has been done onhousehold consumption Moreover, the limited accuracy of data on consumption from VLSS 1992 andVLSS 1998 has hindered researchers’ endeavors in studying on household consumption composition, aswell as its determinants

For those reasons, basing on an accurate data set, VHLSS 2002, to find out determinants of householdconsumption is worth of researching Beyond the analysis of household consumption, a foundation forproposing policies on consumption stimulation established It is particularly relevant to developingcountries like Vietnam of which consumption occupies a large share of aggregate demand

1.2 FOCUS AND SCOPE OF THE THESIS

This thesis focuses on the demand side of the household consumption, of which household expenditure

is an official proxy Main purpose of this paper is investigating determinants of householdconsumption Other factors in supply side including price, inflation, and supply quantity will beneglected

The thesis also tries to examine fixed effects of household characteristics on consumption level ratherthan random effects Applied model is an expansion of fundamental macroeconomic consumptionmodel introduced by Keynes

Major objective of the thesis is finding out the answer to the central question: “What are determinants

of household consumption in Vietnam?”

Sub questions:

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 To what extent and in what dimension does the household characteristics affect toconsumption?

 Is there any geographic effect on patterns of household consumption?

 What are implications for consumption stimulating and development policy?

1.3 METHODOLOGY

The study is developed in analytical framework from demand side of consumption This thesis willfirstly review fundamental theoretical issues relating to household consumption Then, it willconcentrate on descriptive analysis of household consumption relying on data from VHLSS 2002 Aquantitative analysis using linear econometric model will be applied to demonstrate main characteristics

of household affecting to the household consumption level Finally, it will show key findings andsuggest some policy implications for enhancing household consumption in Vietnam

1.4 DATA SOURCES

For primary analysis, relying data is Vietnam Household Living Standard Survey (VHLSS) carried out

by the General Statistic Office (GSO) in 2002 The nation-wide household survey was part of theLiving Standards Measurement Study (LSMS) household surveys with technical assistance from theWorld Bank It is cross sectional in design and administered at the individual level with nearly 140,000observations However, the number of observation at household level is only nearly 30,000

The VHLSS 2002 used questionnaires contained 9 sections each of which covered a separate aspect ofhousehold activities Those are: (i) Household member; (ii) Education; (iii) Employment; (iv) Health;(v) Income and Source of income; (vi) Expenditure; (vii) Fixed assets and durable things; (viii)Housing; (iv) Participant in poverty alleviation program The whole data set is recorded in STATA datafiles Those files include data about household size, age, sex, education, occupation, expenditure,income, and other household compositions and geographic features that are available for studying

1.5 STRUCTURE OF THE THESIS

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The thesis includes five chapters After the introduction, chapter 2 provides key concepts, and generaltheoretical framework on household consumption This chapter firstly reviews fundamentalconsumption theories, which show numerous approaches explaining consumption behavior ofhousehold Then, it goes over key findings of some relevant empirical studies on the aspect.

An overview of household consumption in Vietnam relying on data set VHLSS 2002 is presented inchapter 3 This chapter points out intuitive patterns of household consumption in Vietnam withdescriptive tendency and expectations before coming to quantitative analysis

The core part of the thesis is chapter 4, which focus on quantitative analysis of household consumptionincluding highlighting major features of household consumption, rationing and formulatingeconometric model, describing data, presenting and interpreting empirical results

Based on chapter 3 and chapter 4, Chapter 5 is dedicated to key findings and proposing some policyimplications

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CHAPTER 2 THEORETICAL FRAMEWORK

This chapter is dedicated to discussing theoretical framework and empirical studies on householdconsumption Some basic concepts and definitions will be presented in the first section of this chapter.The second section will concentrate on the evolution of theories on consumption The third section isdevoted to reviewing some outstanding empirical studies on household consumption

2.1 CONCEPTS AND DEFINITIONS

2.1.1 Household

The concept of household is defined and discussed by economists, feminists, and anthropologists Chenand Dunn (1996) defined household as a domestic residential group whose members live together inintimate contact, rear children, share the proceeds of labor and other resources held in common, and ingeneral cooperate on a day-to-day basis However, there is much controversy on the definition.Generally, economists consider household as an essential unit of analysis and developing theories based

on modeling household behavior Chayanov model is the earliest one that integrates production andconsumption activities in analyzing the peasant households By combining utility maximization fromconsumption theory with the production from production theory, Chayanov model provides afoundation for integrated model of household behavior (Nguyen, 2003)

As a conceptual concept, household is reckoned as a portfolio of economic resources, economicactivities, and flows between them (Tran, 2000) Household resources are set of human, physical, andfinancial resources available for use by household in a given period Household activities includeconsumption, production and investment activities that household member undertake in a given period

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Household flows are sets of inputs and expenditures coming from household resources to supporthousehold activities.

Besides, there are some definitions relating to the household First, the household characteristics are

defined as things like household composition or household typical features such as number of adults,

children, occupation, age, and marital status Second, household endowments are circumscribed as

assets, which cover various factors of household and natural talent quality or ability such as land,labour, capital, inherit…(Nguyen, 2003)

2.1.2 Consumption

Consumption is the use of resources, goods, or services to satisfy want and need It is exactly not thesame thing as the household expenditure on the consumer goods and services Households want tomaintain a stable flow of services consumption those are the sources of utility to the households from agiven kind of commodity (Sach and Larrain, 1993)

Consumer goods comprise durables and nondurables The distinction between them is the time they

provide utility to user Commodities considered to be non-durables if they give utility only in the course

of using them up - a meal, a newspaper, and a weekend vacation By contrast, other commoditiesproviding satisfaction to the household over a long period as motorcycle, television sets are durables

According to Sach and Larrain (1993), consumption is properly measured as the sum of expenditures onnon-durables and the flow of services rendered by existing stock of consumer durables That is, most ofcurrent expenditures on consumer durables are actually investment spending rather than consumerspending

To some extend, definition of consumption is somewhat similar to expenditure However, consumption

is still primarily analyzed in the context of utility, demand and other importance to market exchanges

2.2 CONSUMPTION THEORIES

2.2.1 Keynes’ Consumption Function

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Consumption is one of the key concepts in economics As an initiative, in the General Theory published

in 1936, John Keynes made the consumption function central to his theory of economic fluctuations and

it has played a crucial role in macroeconomic analysis ever since

Keynes started his theory with three conjectures about consumption function, which rest with his causalobservation Those conjectures are:

(i) marginal propensity to consume (MPC) - the amount consumed out of an additional

dollar of income - is between zero and one,

(ii) average propensity to consume (APC) – defined as the ratio of consumption to

income – falls as income rises, and

(iii) income is the primary determinants of consumption and interest rate does not have

important role (Mankiw, 1997)

On this basis, a short run consumption model is often written as following:

C = C0 + MPC.Y C0 > 0, 0<c<1 (1.1)

Where C : Household consumption

C0 : Autonomous consumption, the constant consumption which is not based on incomeMPC : Marginal propensity to consume

Y: Current income

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Figure 1.1 Keynes’ consumption function

Source: Branson, 1989

This function reflects the tendency that as income increase people tend to spend a decreasingpercentage of income (Figure 1.1) The slope of linear consumption function is MPC and the slope fromthe origin is the APC at that point Apparently from the graph, the MPC is less than APC Keynesreasoned that as income falls relative to recent levels, people will protect consumption standards by notcutting consumption proportionally to the drop in income, and conversely as income rises, consumptionwill not rise proportionally (Branson, 1989)

Based on this standard function, another alternative consumption function with additional calculus’s(adapted from Bui, 2002) could be:

Ln (C) = c0 + c1Ln (Y) (1.2)

The later one exposes clearer relationship between consumption and income This result from the mostdistinguished features of log-log consumption model is that the slope coefficient c1 represents theelasticity of consumption (C) with respect to income (Y) It can be interpreted as the percentage change

in consumption for a given percentage change in income, ceteris paribus If c1 equal to one, anypercentage change in income is fully absorbed by consumption regardless of long run or short runchange, permanent income or transitory income change

Immediately after John Keynes introduced his consumption function, economists tried to test hisconjectures The earliest studies indicated that the Keynes’ consumption function is a goodapproximation of how household behave (Mankiw, 1997) However, incongruity arose wheneconomists examine long time-series household data Typically, Kuznets discovered that APC is fairlystable from decade to decade, despite large increase in income

Although the consumption function that Keynes proposed has some limitations, it is considered to be amilestone in the development of knowledge in this area The function is still an excellent illustration ofhow household behave in the short run Yet, due to its simplicity, it is not commonly used inconsumption analysis

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C = C0 + MPC.YC

Y

C0

2.2.2 Fisher’s Intertemporal Choice Model

Differently from current income based consumption model of Keynes, Irving Fisher developed themodel in which intertemporal choices of forward-looking household are taken into account This modelilluminates the budget constraint that households face, the time preferences they have, and how thesefactors influence to their consumption This paper focuses on the intertemporal budget constraint, which

is the most relevant concept to scope of the study

For simplicity, Fisher explored decision making of a household who lives in two periods with hisincome constraint He earns Y1 in the first period and Y2 in the second one His consumption is C1 and

C2 respectively in the two periods

In the first period, without any initial endowment, saving (S) equals income minus consumption

This equation can be understood as the present value of consumption and income It is the standard way

of expressing the household’s intertemporal budget constraint The implicitly in Fisher’s model is that ahousehold can consume more or less than its income in a specific period but over its lifetime, it cannotconsume more that its resources

The budget constraint is interpreted as the combination of first-period and second-period consumptionthat the household can choose Figure 1.2 presents household’s budget constrained by a budget line

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Any point on this budget line represents possible intertemporal choice of the household At point A, thehousehold consumes exactly what it earns in each period If it chooses points between A and B, thehousehold consumes less than its income in the first period and save the rest for the second period Inthis case, the household shifts its present consumption to future consumption and vice versa if thehousehold chooses a point between A and C.

Figure 1.2 The household’s budget constraint

C1

B

CA

To explain the three conjectures in Keynes’s consumption function discussed earlier, Franco Modiglianipostulated a life-cycle hypothesis of consumption He emphasized that income varies systematicallyover people’s lifetime and that saving allows consumer to move income from those time in life whenincome is high to those time in life when it is low (Branson, 1989) As his argument, a typicalindividual has an income stream that is relatively low at the beginning and end of his life This incomestream is shown as Y curve in Figure 1.3 where Y, C, S, and T are expected income, consumption,saving and expected lifetime respectively.

Figure 1.3 The life-cycle hypothesis of consumption

Source: Branson, 1989

This model suggests that in the early years of people’s life, he is a net borrower, the first shaded area inFigure 1.3 In the middle years, he saves to cover his debt and reserve income for smoothingconsumption in retirement period He dissaves in the later years in his lifetime, the second shaded area

Modigliani relied on two main assumptions Those are:

(i) opportunity: smooth individual income until the retirement and after that his income

turns to zero, and

(ii) preference: consumption remains constant over individual lifetime and no bequest

left to next generation

He differentiated his LCH on consumption by individual’s lifetime resources composition He statedthat consumption is not solely based on expected income but also on wealth Consider a consumer whoexpects to live another T years has wealth of W, and expects to earn annual income Y until he retires R11

T

Y

C Y,C

S

years from now Thus, consumer’s lifetime resources include both initial wealth W and lifetime earning

of R*Y Assuming that consumer wishes to smooth his consumption, he will divide his lifetimeresources of W + R*Y evenly among T remaining years and in each year he consumes:

C = W + R*Y (1.8)

TThe function can be rearranged as:

Figure 1.4 The Life-cycle consumption function

The consumption function predicted by Modigliani is similar to the conventional consumption functionintroduced by Keynes Nonetheless, the intercept term (1/T)W is not a fixed value It, instead, depends

on initial wealth If the wealth increases, the consumption curve is shifted upward as presented inFigure 1.4

Modigliani also solved Keynes puzzle Derive from equation (1.9), APC can be calculated by dividingboth side this equation by Y and we get:

C

= 1 W + R (1.10)

C2 = f(W2, Y) C

Y

C1 = f(W1, Y)

(1/T)W2

(1/T)W1

The economist argued that because wealth does not vary proportionally with income in the short run,high income induces low APC However over a long lifetime, wealth and income grow together,resulting in a constant ratio W/Y and thus a constant APC (Mankiw, 1997)

In brief, Franco Modigliani successfully developed intertemporal choices in his LCH on consumption,which emphasized that income changes systematically over person’s life and that saving allows peoples

to smooth their consumption

2.2.4 Friedman’s Permanent-Income Hypothesis

Another consumption theory expanded from intertemporal approach is permanent income hypothesis,which is proposed by Milton Friedman in 1957 Unlike the LCH, which emphasized that incomefollows a regular pattern over a person’s lifetime, the PIH highlighted that people experience randomand temporary changes in their income from year to year (Friedman, 1957) He suggested that incomeshould be viewed as a sum of permanent income (YP) and transitory income (YT)

As Branson realized, PIH rests with three main assumptions

(i) There is no correlation between permanent and transitory income

(ii) There is no relationship between permanent and transitory consumption

(iii) There is no relation ship between transitory consumption and transitory income

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Therefore, transitory consumption is not correlated with ether permanent consumption or transitoryincome It means that changes in permanent or transitory income does not affect to transitoryconsumption The transitory component has an expected value of zero (E[YT] = 0) reflecting the notionthat over time transitory gains are offset by future transitory losses and vice-versa Thus in the long runobserved levels of income 'Y' are equal to permanent income 'YP'

Consequently, Friedman concluded that consumption depends primary on permanent income becausehousehold uses saving and borrowing to smooth consumption in response to transitory changes inincome That is

in which,  is a constant that measures the fraction of consumption out of permanent income

Applying intertemporal approach in the PIH, Friedman formulated consumption function with budgetconstraint in two periods as following:

A graphical representation of permanent income consumption is provided in Figure 1.5 Because YP isthe average expected income over the two periods, the intersection of 450 line and the budget constraintline is expected YP Point A is an extreme case when consumption is exactly equal to permanent income

in each period In this special case of utility maximization, people tries to maintain fairly stableconsumption path so that he consumes the same every period Saving and borrowing is used in response

to temporary changes in transitory income

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Figure 1.5 Household consumption and permanent income

Source: Sach and Larrain, 1993

In short, PIH on consumption postulated by Milton Friedman is an application of intertemporalapproach It suggested that income should be viewed as a combination of permanent income andtransitory income Accordingly, consumption should depend primarily on permanent income, andsaving is considered to be responsive factor to temporary income changes

2.2.5 Hall’s Random-Walk Hypothesis

Rested with Irving Fisher’s intertemporal choice model, Franco Modigliani concentrated on thestructural relationship of expected income, wealth, and current consumption whereas Milton Friedmandeveloped his PIH showing that current consumption essentially relies on permanent income.Developing this analogy, more recently Robert Hall has reformulated consumption theory by adding theassumption of rational expectation to the intertemporal choice approach

The rational expectation assumption states that people use all available information to make optimalforecasts about he future income (Branson, 1989) Moving directly to reduced-form forecastingequation, let us discuss Hall’s insight somewhat more carefully in terms of the intertemporal

Period 1E

P T

where t is the current point of time and t+1 is the next period

The equation gives the expected value of the next period consumption Ct+1, conditional on this periodconsumption, Ct, which is already known When people receive news or information, his anticipationmust be revised and expected consumption is changed consequently Hence, the expected value forconsumption is a total of permanent consumption and transitory consumption, which is the randomterm

If the present value of actual consumption Ct incorporates all the relevant information in an unbiasedestimation of permanent income, then the expectations are rational, and the transitory component in theequation (1.17) will indeed be random over time (Branson, 1989) Thus, the above equation can be seen

as a forecasting equation of anticipated consumption

Adding rational expectation assumption to the basic Fisher’s intertemporal model, Robert Hall gives us

a reduced-form forecasting equation for consumption It is apparently consistent with the basicrelationship of the whole consumption theory: current consumption depends on the present value of theentire future income stream This is the general starting point we have discussed

2.3 EMPIRICAL STUDY REVIEW

Taking these theories of consumption as benchmark, various types of consumption function have beenexamined by economists Typical researcher who relied on life-cycle hypothesis of consumption isDeaton (1997, 2002) He explored age profiles of consumption and saving in the C«te d’Ivoire,Thailand and Taiwan He stated that consumption profile is very close to the income profiles.Implicitly, peoples smooth their consumption over the lifetime More interestingly, he concluded “…while it is possible that the age profiles of consumption are simply those that people like, and justhappen to match the shape of income profiles, it stretches belief that the coincidence should happen forevery educational and occupational groups as well as for a wide range of countries…”

Another direct test of permanent income hypothesis presented by De Juan, Seater and Wirjanto (2003)uses time-series data of 48 contiguous US states The research sets out to implement a direct test of the16

implication of the PIH that the size of consumption revision due to an income innovation is equal to thesize of permanent income revision due to the same income innovation For each state, the authorsjointly estimated the univariate income generating process and the equation describing the relationbetween consumption revision and income innovation They then obtained an estimate of the magnitude

of the revision in permanent income associated with an income innovation using the estimatedparameters of the stochastic process generating income The result implies that innovations in currentincome contain new information about the expected future path of income that leads consumers in eachstate to revise both their consumption and permanent income This support for the PIH stands incontrast to the widely held views that credit constraints, myopia, or behavior toward risk

In some other literatures, economists attempt to examine the interrelationship of householdcharacteristics and household consumption This had been learnt in detail by Wondom (1999) Thecentral issue of his research is finding the micro determinants of growth in per capita consumption overtime in Bangladesh Separated regressions were used for rural and urban area because, as author’sexplanation, the returns to household characteristics may differ between these two areas Theindependent variables are geographic location, household size, age and sex of the household head,marital status, education variables, and occupation variables He found that households with femalehead have lower consumption and heads without spouse fare better than households with a spouse do.Moreover, a remarkable statement was a household with both the head and the spouse havingcompleted secondary school has an expected per capita consumption almost double that of a similarhousehold with illiterate head and spouse In addition, return of education is larger in urban area, andnon-farm household consume more than farm household in Bangladesh’s rural area does

In Vietnamese context, household expenditure is more greatly concerned than household consumption

“What determinants explain for differences in living standard of households” is the central researchquestion of Vu T M (1999) The author firstly gave a descriptive analysis of per capita expenditurebased on quintile classification of VLSS 1992-1993 Then he examined conventional householdcharacteristics He concluded that household whose head attain higher education level and those whowork in state-owned sectors has higher per capita expenditure The larger household size, the higherprobability of being the poor In addition, his essential finding that characterizes Vietnamese

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households is gender of head does not affect prosperity of household if others being equal This findinggave delight to the author himself because in descriptive analysis, statistically, household head byfemale has higher probability of being rich than others are The author also investigated the significance

of the geographic effect Households live in South East and Mekong delta seems spend more, partlybecause they are wealthier These findings are valuable for ongoing studies However, if the author hadcombined the data set VLSS 1998, it would have been an exhaustive research on both fixed effect andrandom effects on expenditure

Relying on recent data set VHLSS 2002, Le Thuc Duc et.al (2004) have evaluated impact of openness

on the poor A part of their study is identifying the poor based on expenditure necessary to secure anintake of 2100 calories per adult equivalent per day They also figured out poverty rate and poverty gapfor various domains in Vietnam A logistic model was applied with emphasis on the variables likeethnicity, education, government and SOEs job, region, electrification, and landless After all, theyconclude that ethnicity explains most of the regional difference in poverty rate, especially in NorthernUplands Return on education moderately differs as well The government or SOEs job have greaterantipoverty effect in the North than in the South

2.4 CHAPTER REMARKS

This chapter provides a review of the outstanding theoretical and empirical studies on householdconsumption The first section of this chapter presents a widely accepted definition of household as well

as definition and measurement of consumption

The second part, the center of this chapter, illustrates the evolution of economic theories onconsumption Keynes initially argued that current income is the primary determinants of consumption.Despite some limitations in the Keynes’ consumption function, it still plays a vital role in thedevelopment of ideas in this area Intertemporal choices model developed by Irving Fisher shows howrational, forward-looking individual make his choice This model implies that consumption depends onthe present value of current and future income Based on intertemporal choice model, FrancoModigliani built on his LCH on consumption The hypothesis emphasized that income variessystematically over people’s life and saving allows consumer to move income from those time in life

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when income is high to those time in life when it is low Another expansion of intertemporal choicemodel is PIH postulated by Milton Friedman as a complement to LCH Friedman claimed that peoplefollow random and temporary changes in income from year to year Current income of a personcomprises permanent income and transitory income Thus current consumption primarily based onpermanent income rather than transitory income Also rest with intertemporal approach, Robert Hallprovided an estimation equation for expected consumption by adding the rational expectationassumption He found that the expected value for consumption is a total of permanent consumption andtransitory consumption

The final section is devoted to reviewing relevant key findings and conclusions of outstanding empiricalstudies on consumption of foreign economists as well as Vietnamese researchers These findings appear

to be consistent with theoretical framework on consumption

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CHAPTER 3

AN OVERVIEW OF HOUSEHOLD CONSUMPTION IN VIETNAM

In this chapter, we will analyze the relationship of household consumption and householdcharacteristics as well as geographic features First, the chapter aims to study characteristics ofhousehold in Vietnam Then it will focus on examining household consumption by tool of descriptiveand comparative analysis in order to highlight main patterns of household consumption in Vietnam

3.1 CHARACTERISTICS OF HOUSEHOLD IN VIETNAM

During the past decade, Vietnam’s economy has been growing steadily at level of 7 percent (GSO,2002) This achievement has contributed to remarkable increase in per capita income and livingstandard enhancement As a result, characteristics of Vietnamese households have been changedgradually

Since the reunification in 1976, the percentage of females has been always higher than that of males.Fortunately, the gap has narrowed The proportion of males and females were 48.78 and 51.22 percentrespectively in 1990 and has reduced to 49.16 and 50.84 percent in 2002 (GSO, 2002) These figureswere consistent with those calculated from VHLSS 2002 According to VHLSS 2002 survey, malesaccounted for 48.43 percent and female accounted for 50.57 percent The differences in proportion ofmale and female may be explained by the differences in the lifetime of males and females, and a greatnumbers of man have died during the long-decades of war

Although the renovation process has brought about urbanization, the number of households living in therural areas made up a large percentage In 1998, the urban population accounted for 22.4 percent andthe rural population accounted for 77.57 percent (GSO, 1998) These figures are consistent with thosecalculated from VHLSS 2002 The most densely populated areas are the Mekong Rive Delta and RedDelta, which made up more than 35 percent of the whole population VHLSS 2002

In the recent year, thanks to the propaganda of family planning and the use of model technology in birthcontrol, the population growth has fallen The average household size also changes from region toregion with the greatest size of 5.2 people in rural South and the smallest size of 4.0 people in urban20

North On average, Vietnamese household size was 4.49 One interesting finding here is that thenumber of children dropped gradually along with income quintiles, which means that the more chancethe household can earn money the less baby they have The area with the highest number of children in

a household was the Central Highlands (4.58) and the area with the lowest number was the Red RiverDelta (3.08)

Household heads play important roles in household management In Vietnam, due to the history andagricultural culture most of the household heads were men The VHLSS 2002 shows that malehousehold heads made up 76.54 percent and the remaining of 23.4 percent were women The data alsoreveals that the higher the education of household heads the higher the income of household,Unfortunately, most household heads have low level of education (81.02 percent have not finishedgeneral education of which 7.99 percent never attending school)

3.2 HOUSEHOLD CONSUMPTION IN VIETNAM IN 2002

In this part, the thesis will analyze household consumption by factors including income, household size,number of children, region, age, gender, education and occupation Household consumption defined asall expenditure on non-durable goods and adjusted to price differences among regions and to inflation

In analysis, household consumption is calculated from VHLSS 2002 data set and grouped in 5 quintilesthat represented for 5 groups of household in different economic situation Household consumption ismeasured in thousand VND per year

3.2.1 Household consumption by household income

As throughout analyzed in theoretical chapter, household consumption always depends on householdincome In other words, household consumption is positively related to household income Once again,

it is true when examining household consumption in Vietnam Statistical results from VHLSS 2002data set are shown in table 3.1

In the first quintile, household consumption accounted for 4,975 thousand VND per year where ashousehold income was 6,671 thousand VND per year or household consumption took a share of 0.74 ofhousehold income Household consumption increased as household income rise across quintiles.Interestingly, the share of household consumption on household income did not increase as income rise

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This share fallen from 0.746 in the first quintile to 0.75 in the forth quintile It is slightly higher (0.737)

in the fifth quintile This finding is consistent with Keynesian consumption model, which stated that asincome rise, household would save a greater and greater fraction of their income, it would, in turn,reduce fraction of their consumption To examine magnitude of consumption fraction to income in thewhole data set, quantitative model in the next chapter will bring a full-sided analysis

Consumption quintile Consumption Income Consumption/ Income

Source: Author’s calculation from VHLSS 2002

3.2.2 Household consumption by region and quintiles

To examine the pattern of household consumption in Vietnam across region, some descriptive analysiswas done basing on VHLSS 2002 data set with 22,462 observations The result shows that consumptionlevel of household living in the South was highest (16,764.90 mill VND per year), that of householdliving in the North was lowest (11,800.80 mil VND per year) and consumption of household living inthe Central was in the middle (11,968.5 mill VND per year)

This thesis also applies cluster methodology by using quintile of consumption level for each region Theobtained results partly answer to the question about geographic impact on consumption level Table 3.2reveals differences in consumption level across regions, the North, the Central, and the South ofVietnam

The lowest and the highest consumption quintile show clearly this difference In the first quintile,consumption level of household in the North accounted for about 4,984 thousand VND per year, that ofhousehold located in the South reached 5,113 thousand VND per year, whereas consumption level ofhousehold in the Central was only 4,878 thousand VND per year 22

There is a similar picture for consumption level of the highest quintile Household consumption level inthe North, the Central, and the South respectively was 26,965 thousand VND per year, 26,613 thousandVND per year and 30,151 thousand VND per year.

Table 3.2: Household consumption by regions and quintiles (’000 VND/year)

Source: Author’s calculation based on VHLSS 2002 data set

In overall, five consumption quintiles display a apparent distance of consumption level of householdliving in the South with that of household living in two other regions It can be explained by followingreasons:

 In the North, especially in the Northeast and the Northwest regions, a large number ofhousehold is living in poor infrastructure such as having bad accommodation, using unpurified water,lighting by petrol in stead of electricity Thus consumption level of household in these regions iscertainly lower than that of household in region with good infrastructure like in the South where gatherlarge industrial zones and processing zone

 Household in the Central also consume less than household in the South because in theCentral, household often faces with natural disaster (flood, storm…) These events force Centralhousehold have to make forward-looking decision Maintaining a certain saving by consume less in agiven budget constrain is the best way This is accompanied by PIH hypothesis shown in the previouschapter

 People in the South have a more generous perception and habit in consumption partlybecause services sector in this region is more active to satisfy wants and needs of household Moreover,life in the South is apparently more modern than in other regions resulting from historical inheritance

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Thus, it is reasonable to expect that household living in the South has higher level in both autonomousconsumption and MPC than household living in the North and in the Central However, the comparison

of consumption level of household in the North and in the Central does not show clear relation Thiswill be further studied in the next chapter

3.2.3 Household consumption between urban and rural area

In many developing countries, income, expenditure and consumption of household located in urbanarea is often higher than that of household in rural area Vietnam is not exclusion According to VHLSS

2002, consumption level of household located in urban area (20,661 thousand VND per year) is nearlydouble that of rural household (11,348 thousand VND per year)

It can be explained by following reasons:

(i) in rural area, making businesses and finding jobs is more difficult due to unfavorablelocation, lower quality of human capital (e.g knowledge, skills and chance to access to information…)

As a result, household income could be lower This is similar to findings of Vu P.H.D (2000)

(ii) most of rural household’s income comes from agriculture, aquaculture, and sylviculturewhich faces with vulnerable conditions and

(iii) general living standard in rural area is lower than that in urban area

This argument is further supported as shown in table 3.3 where difference in consumption is moresubstantial across consumption quintiles

In overall, figures in above table are consistent with the idea of household in urban area consume morethan that in rural area It can be also observed that the discrepancy of household consumption level ineach quintile increases gradually Surprisingly, the difference in the 5th quintile reaches 6,558 thousandVND per year.

Base on these stylized facts, it can be expected that household’s consumption level in the urban area isgreater than that of household in rural area Linear model regression is used in testing this hypothesis inchapter 4

3.2.4 Household Consumption by household size and number of children

A fact that cannot be denied is increase in household member induces household consumptionexpansion Event the member is adult or children the household must use a larger share of income tosatisfy, at least, his necessity need Appendix 4.2 strongly supports to this idea If a family consisted ofonly one member, its consumption level was 4,481 thousand VND per year Household consumptiongradually in creased long with household size It reached a peak of 38,034 thousand VND per year forhouseholds of 14 members Household included 15,17 and 18 persons occurred only one time for each

in the data set Thus theirs consumption level consider to be unidentical result In brief, higherhousehold consumption level is always associated with larger household size However, to that extentdoes the household size affect to consumption level, it need to be further analyzed in the next chapterwhere quantitative model is used

There is similar picture when examining relationship between number of children and householdconsumption The higher number of children, the larger household consumption level Evidenceillustrated in Appendix 4.3 where household consumption in the families without children was about12,767 thousand VND per year, with one child it accounted for 14,593 thousand VND per year and so

on Especially the household with 9 children, consumption level was 22,829 thousand VND per year.This number was much higher than the previous consumption level of household with 8 children(15,075 thousand VND per year) All above figures resulted from VHLSS 2002 and the term number ofchildren is measured in counting number of children under fifteen year old Because below 15 year old,

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