The dynamics of perceived financial difficulties

The perceptions of individuals regarding their own economic situation are sometimes used to measure individuals’ welfare or standard of living, thereby complementing the conventional income-based approach. While the importance of using longitudinal data when analysing the determinants of perceptions has recently been emphasized, the question of state dependence – the extent to which the past affects the present – has rarely been accounted for in the subjective economic well-being literature. The main contribution of the current paper is precisely to investigate the issue of state dependence in perceived financial difficulties. The application of an endogenous switching Markov model to data from the Luxembourg socioeconomic panel ‘Liewen zu Lëtzebuerg’ for the period 2003-2009 leads to the conclusion that there is a sizeable proportion of genuine state dependence, which confirms the importance of appropriately taking into account dynamic issues when modelling subjective variables. The paper also analyses the determinants of the dynamics of perceived financial difficulties in Luxembourg and compares the results with those obtained when applying the same model to the traditional income poverty approach. Differences are found in the socio-economic correlates affecting persistence in perceived difficulties and persistence in low income, which suggests that perceptions capture dimensions of disadvantage not covered by low income.