panel b) combined with low public savings means that the main actors of Armenia's domestic saving so far have been households. Better understanding the determinants of aggregate and household savings can help to lay out a sensible saving policy to sustain growth.

Sustaining domestic savings at levels that allow investment financing without greatly relying on foreign savings is an important condition for the agenda of high and sustained growth. Yet, although a macroeconomic parameter, saving also depends on the optimization behavior of consumers as their income increases. This paper aims at analyzing and reconciling macro and micro evidence on savings and factors that affect savings in Armenia. We explore the determinants of the savings rate at the macroeconomic and microeconomic levels, using the typical econometric models used in the literature (Error Correction Models for the macro determinants and Linear Multivariate Models for the micro determinants). At both levels, empirical research has confirmed the predominant impact of income and future income on savings decisions, a result that is confirmed by Armenian data.

The rest of the paper is organized as follows. Section II presents the analysis of the macroeconomic determinants of aggregate saving, followed by that of the microeconomic determinants of household saving. Section III reconciles the findings for these two analyses and explores some policy implications for sustainable growth.

# **II. What Are the Determinants of Armenia’s Savings Rate?**

The theoretical and empirical literature on the determinants of saving has relied mainly on the life cycle hypothesis (LCH) according to which rational agents make their saving choices to smooth their consumption in order to maximize their inter-temporal utility (Modigliani, 1970). Saving then becomes for households, firms or governments an adjustment variable which depends on current and future economic context, as measured by either income or GDP. At the aggregate level households, firms and government make their saving decision according to their current and future income, which depends on the volatility of the economy. Another strand of the theoretical literature is based on the permanent income hypothesis (PIH) in which individual saving is assumed to react to expectations regarding the transitory or permanent nature of income inflows (Friedman, 1957). Browning and Lusardi (1996) provide a comprehensive list of motives, drawing on an early work by Keynes positing that a desire to save may respond to many factors, and is unlikely to be homogeneous.

These seminal models resulted in a number of predictions regarding optimal savings behavior. Both models of inter-temporal allocation of resources (LCH and PIH) predict that savings should respond positively to higher incomes, as well as to higher uncertainty in future income. Household characteristics such as education or employment types viewed as securing a more stable flow of income should also decrease savings (assuming a constant income level). Schmidt-Hebbel _et al._ <u>(1996)</u> present evidence that suggests that in developing countries the availability of financial instruments and the presence of liquidity constraints are important determinants of savings. More recent studies including Kulikov _et al_ ., (2007) find that urbanization, potentially a proxy for income stability, and ownership of large durable goods such as vehicles and real estate negatively impacts saving rates.

Applications of these models in developing and emerging markets show that savings behavior depends upon a country’s income levels. This is true both in terms of the level of determinants as well as the nature of the saving vehicles used. For example, non-financial vehicles such as land, livestock, machines and cash-holdings are frequently cited in household 3