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Households' Consumption under the Habit Formation Hypothesis. Evidence from Italian Households using the Survey of Household Income and Wealth (SHIW)

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Mariacristina Rossi ()

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Abstract

This paper explores the mis-specification of preferences as a cause of the poor empirical performance of the traditional Life Cycle/Permanent Income model in explaining Italian households' consumption decisions. Consumption profiles generated under strict life cycle models could be hardly reconciled with those exhibited by Italian households. We estimate how household consumption evolves over time by using an Euler equation approach, enriched both for the presence of habit formation in households' preferences and uncertainty. We test its performance by using a GMM estimation strategy. Our results prove that ignoring habit persistence can lead to misleading results in interpreting the determinants of consumption.

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Paper provided by University of Essex, Department of Economics in its series Economics Discussion Papers with number 595.

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Date of creation: 04 May 2005
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Handle: RePEc:esx:essedp:595

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  1. Arellano, Manuel & Bond, Stephen, 1991. "Some Tests of Specification for Panel Data: Monte Carlo Evidence and an Application to Employment Equations," Review of Economic Studies, Blackwell Publishing, vol. 58(2), pages 277-97, April. [Downloadable!] (restricted)
  2. Abel, A.B., 1990. "Asset Prices Under Habit Formation And Catching Up With The Joneses," Weiss Center Working Papers 1-90, Wharton School - Weiss Center for International Financial Research.
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