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Consumption Commitments and Preferences for Risk

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Author Info

  • Andrew Postlewaite

    ()
    (Department of Economics, University of Pennsylvania)

  • Larry Samuelson

    ()
    (Department of Economics, University of Wisconsin)

  • Dan Silverman

    ()
    (Department of Economics, University of Michigan)

Abstract

We examine an economy in which the cost of consuming some goods can be reduced by making commitments to consumption levels independent of the state. For example, it is cheaper to produce housing services via owner-occupied than rented housing, but the transactions costs associated with the former prompt relatively inflexible housing consumption paths. We show that consumption commitments can cause risk-neutral consumers to care about risk, creating incentives to both insure risks and bunch uninsured risks together. For example, workers may prefer to avoid wage risk while bearing an unemployment risk that is concentrated in as few states as possible.

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Bibliographic Info

Paper provided by Penn Institute for Economic Research, Department of Economics, University of Pennsylvania in its series PIER Working Paper Archive with number 04-021.

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Length: 43 pages
Date of creation: 01 Dec 2001
Date of revision: 18 May 2004
Handle: RePEc:pen:papers:04-021

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Keywords: Unemployment; risk sharing; income distribution;

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References

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  1. Kihlstrom, Richard E & Mirman, Leonard J, 1981. "Constant, Increasing and Decreasing Risk Aversion with Many Commodities," Review of Economic Studies, Wiley Blackwell, vol. 48(2), pages 271-80, April.
  2. Akerlof, George A & Miyazaki, Hajime, 1980. "The Implicit Contract Theory of Unemployment Meets the Wage Bill Argument," Review of Economic Studies, Wiley Blackwell, vol. 47(2), pages 321-38, January.
  3. Ellingsen, T. & Holden, S., 1995. "Sticky Consumption and Rigid Wages," Memorandum 21/1995, Oslo University, Department of Economics.
  4. Adam Szeidl & Raj Chetty, 2004. "Consumption Commitments and Asset Prices," 2004 Meeting Papers 354, Society for Economic Dynamics.
  5. Baily, Martin Neil, 1974. "Wages and Employment under Uncertain Demand," Review of Economic Studies, Wiley Blackwell, vol. 41(1), pages 37-50, January.
  6. Lucas, Robert E, Jr & Rapping, Leonard A, 1969. "Real Wages, Employment, and Inflation," Journal of Political Economy, University of Chicago Press, vol. 77(5), pages 721-54, Sept./Oct.
  7. Azariadis, Costas, 1975. "Implicit Contracts and Underemployment Equilibria," Journal of Political Economy, University of Chicago Press, vol. 83(6), pages 1183-1202, December.
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Cited by:
  1. Drew Fudenberg & David K Levine, 2009. "Risk, Delay, and Convex Self-Control Costs," Levine's Working Paper Archive 843644000000000332, David K. Levine.
  2. Steinar Holden & Fredrik Wulfsberg, 2007. "Are real wages rigid downwards?," Working Paper 2007/01, Norges Bank.
  3. Stephen H. Shore & Todd Sinai, 2010. "Commitment, Risk, and Consumption: Do Birds of a Feather Have Bigger Nests?," The Review of Economics and Statistics, MIT Press, vol. 92(2), pages 408-424, May.
  4. Raj Chetty & Adam Szeidl, 2007. "Consumption Commitments and Risk Preferences," The Quarterly Journal of Economics, MIT Press, vol. 122(2), pages 831-877, 05.
  5. Holden, Steinar & Wulfsberg, Fredrik, 2009. "How strong is the macroeconomic case for downward real wage rigidity?," Journal of Monetary Economics, Elsevier, vol. 56(4), pages 605-615, May.
  6. Steinar Holden & Fredrik Wulfsberg, 2007. "How strong is the case for downward real wage rigidity?," Working Papers 07-6, Federal Reserve Bank of Boston.
  7. Adam Szeidl & Raj Chetty, 2005. "Consumption Commitments: Neoclassical Foundations for Habit Formation," 2005 Meeting Papers 122, Society for Economic Dynamics.

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