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Habit Persistence, Nonseparability between Consumption and Leisure, or Rule-of-Thumb Consumers: Which Accounts for the Predictability of Consumption Growth?

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  • Michael T. Kiley

    (Federal Reserve Board)

Abstract

Consumption growth is predictable, a basic violation of the permanent-income hypothesis. This paper examines three possible explanations: rule-of-thumb behavior, in which households allow consumption to track per period income flows rather than permanent income; habit persistence; and nonseparability in preferences over consumption and leisure. The results illustrate that weak instruments make the results highly sensitive to some arbitrary choices common in the literature. Using a technique that is robust to instrument choice, the analysis shows support for habit persistence and rule-of-thumb behavior and little support for nonseparability between consumption and leisure.

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Bibliographic Info

Article provided by MIT Press in its journal The Review of Economics and Statistics.

Volume (Year): 92 (2010)
Issue (Month): 3 (August)
Pages: 679-683

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Handle: RePEc:tpr:restat:v:92:y:2010:i:3:p:679-683

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References

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  1. Christopher D. Carroll, 1997. "Death to the Log-Linearized Consumption Euler Equation! (And Very Poor Health to the Second-Order Approximation)," NBER Working Papers 6298, National Bureau of Economic Research, Inc.
  2. John Y. Campbell & John H. Cochrane, 1994. "By force of habit: a consumption-based explanation of aggregate stock market behavior," Working Papers 94-17, Federal Reserve Bank of Philadelphia.
  3. G. Constantinides, 1990. "Habit formation: a resolution of the equity premium puzzle," Levine's Working Paper Archive 1397, David K. Levine.
  4. Thomas D. Tallarini, Jr. & Harold H. Zhang, 2005. "External Habit and the Cyclicality of Expected Stock Returns," The Journal of Business, University of Chicago Press, vol. 78(3), pages 1023-1048, May.
  5. Reis, Ricardo, 2005. "Inattentive Consumers," CEPR Discussion Papers 5053, C.E.P.R. Discussion Papers.
  6. Lawrence J. Christiano & Martin Eichenbaum & Charles L. Evans, 2005. "Nominal Rigidities and the Dynamic Effects of a Shock to Monetary Policy," Journal of Political Economy, University of Chicago Press, vol. 113(1), pages 1-45, February.
  7. Morten O. Ravn & Stephanie Schmitt-Grohe, 2004. "Deep Habits," 2004 Meeting Papers 208, Society for Economic Dynamics.
  8. Campbell, John & Deaton, Angus, 1989. "Why Is Consumption So Smooth?," Scholarly Articles 3221494, Harvard University Department of Economics.
  9. John Y. Campbell & N. Gregory Mankiw, 1989. "Consumption, Income, and Interest Rates: Reinterpreting the Time Series Evidence," NBER Working Papers 2924, National Bureau of Economic Research, Inc.
  10. John Y. Campbell & John Cochrane, 1999. "Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior," Journal of Political Economy, University of Chicago Press, vol. 107(2), pages 205-251, April.
  11. John Y. Campbell & N. Gregory Mankiw, 1991. "Permanent Income, Current Income, and Consumption," NBER Working Papers 2436, National Bureau of Economic Research, Inc.
  12. Cochrane, John H, 1994. "Permanent and Transitory Components of GNP and Stock Prices," The Quarterly Journal of Economics, MIT Press, vol. 109(1), pages 241-65, February.
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Cited by:
  1. Glenn D. Rudebusch & Eric T. Swanson, 2008. "The bond premium in a DSGE model with long-run real and nominal risks," Working Paper Research 143, National Bank of Belgium.
  2. Tobias Cwik, 2012. "Fiscal consolidation using the example of Germany," Finance and Economics Discussion Series 2012-80, Board of Governors of the Federal Reserve System (U.S.).
  3. Edge, Rochelle M. & Kiley, Michael T. & Laforte, Jean-Philippe, 2008. "Natural rate measures in an estimated DSGE model of the U.S. economy," Journal of Economic Dynamics and Control, Elsevier, vol. 32(8), pages 2512-2535, August.
  4. Buffie, Edward F., 2013. "The Taylor principle fights back, Part I," Journal of Economic Dynamics and Control, Elsevier, vol. 37(12), pages 2771-2795.
  5. Rochelle M. Edge & Michael T. Kiley & Jean-Philippe Laforte, 2007. "Documentation of the Research and Statistics Division’s estimated DSGE model of the U.S. economy: 2006 version," Finance and Economics Discussion Series 2007-53, Board of Governors of the Federal Reserve System (U.S.).
  6. Tesfaselassie, Mewael F., 2014. "Trend growth and learning about monetary policy rules," Journal of Economic Dynamics and Control, Elsevier, vol. 41(C), pages 241-256.
  7. Yvonne Adema & Lorenzo Pozzi, 2012. "Business Cycle Fluctuations and Private Savings in OECD Countries: A Panel Data Analysis," Tinbergen Institute Discussion Papers 12-144/VI, Tinbergen Institute.
  8. Federico S. Mandelman, 2011. "Monetary and exchange rate policy under remittance fluctuations," Working Paper 2011-07, Federal Reserve Bank of Atlanta.
  9. Kilponen, Juha, 2009. "Euler consumption equation with non-separable preferences over consumption and leisure and collateral constraints," Research Discussion Papers 9/2009, Bank of Finland.
  10. Francisco Alvarez-Cuadrado & Jose Maria Casado & Jose Maria Labeaga & Dhanoos Sutthiphisal, 2012. "Envy and habits: panel data estimates of interdependent preferences," Banco de Espa�a Working Papers 1213, Banco de Espa�a.
  11. Kilponen, Juha & Vilmunen, Jouko & Vähämaa, Oskari, 2013. "Estimating intertemporal elasticity of substitution in a sticky price model," Research Discussion Papers 9/2013, Bank of Finland.
  12. Hess T. Chung & Michael T. Kiley & Jean-Philippe Laforte, 2010. "Documentation of the Estimated, Dynamic, Optimization-based (EDO) model of the U.S. economy: 2010 version," Finance and Economics Discussion Series 2010-29, Board of Governors of the Federal Reserve System (U.S.).
  13. repec:dgr:uvatin:2010049 is not listed on IDEAS
  14. Michael T. Kiley & Jean-Philippe Laforte & Rochelle M. Edge, 2008. "The Sources of Fluctuations in Residential Investment: A View from a Policy-Oriented DSGE Model of the U.S. Economic," 2008 Meeting Papers 990, Society for Economic Dynamics.
  15. repec:dgr:uvatin:2012144 is not listed on IDEAS

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