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Individual Learning About Consumption

  • Allen, Todd W.
  • Carroll, Christopher D.

The standard approach to modelling consumption/saving problems is to assume that the decisionmaker is solving a dynamic stochastic optimization problem. However, under realistic descriptions of utility and uncertainty, the optimal consumption/saving decision is so difficult that only recently have economists have managed to find solutions, using numerical methods that require previously infeasible amounts of computation. Yet empirical evidence suggests that household behavior conforms fairly well with the prescriptions of the optimal solution, raising the question of how average households can solve problems that economists, until recently, could not. This paper examines whether consumers might be able to find a reasonably good 'rule-of-thumb' approximation to optimal behavior by trial-and-error methods, as Friedman (1953) proposed long ago. We find that such individual learning methods can reliably identify reasonably good rules of thumb only if the consumer is able to spend absurdly large amounts of time searching for a good rule.

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Article provided by Cambridge University Press in its journal Macroeconomic Dynamics.

Volume (Year): 5 (2001)
Issue (Month): 02 (April)
Pages: 255-271

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Handle: RePEc:cup:macdyn:v:5:y:2001:i:02:p:255-271_01
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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)," Economics Working Paper Archive 390, The Johns Hopkins University,Department of Economics.
  2. Martin Browning & Annamaria Lusardi, 1995. "Household Saving: Micro Theories and Micro Facts," Department of Economics Working Papers 1995-02, McMaster University.
  3. Christopher D. Carroll, 2001. "A Theory of the Consumption Function, With and Without Liquidity Constraints (Expanded Version)," NBER Working Papers 8387, National Bureau of Economic Research, Inc.
  4. Christopher D. Carroll, 1992. "The Buffer-Stock Theory of Saving: Some Macroeconomic Evidence," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 23(2), pages 61-156.
  5. Pierre-Olivier Gourinchas & Jonathan A. Parker, 2002. "Consumption Over the Life Cycle," Econometrica, Econometric Society, vol. 70(1), pages 47-89, January.
  6. Sushil Bikhchandani & David Hirshleifer & Ivo Welch, 1998. "Learning from the Behavior of Others: Conformity, Fads, and Informational Cascades," Journal of Economic Perspectives, American Economic Association, vol. 12(3), pages 151-170, Summer.
  7. repec:cup:cbooks:9780521589826 is not listed on IDEAS
  8. Stephen Zeldes, . "Optimal Consumption with Stochastic Income: Deviations from Certainty Equivalence," Rodney L. White Center for Financial Research Working Papers 20-86, Wharton School Rodney L. White Center for Financial Research.
  9. Deaton, A., 1989. "Saving And Liquidity Constraints," Papers 153, Princeton, Woodrow Wilson School - Public and International Affairs.
  10. Carroll, Christopher D & Kimball, Miles S, 1996. "On the Concavity of the Consumption Function," Econometrica, Econometric Society, vol. 64(4), pages 981-92, July.
  11. Glenn R. Hubbard & Jonathan Skinner & Stephen P. Zeldes, . "Precautionary Saving and Social Insurance," Rodney L. White Center for Financial Research Working Papers 03-95, Wharton School Rodney L. White Center for Financial Research.
  12. repec:cup:cbooks:9780521589833 is not listed on IDEAS
  13. R. Glenn Hubbard & Jonathan Skinner & Stephen P. Zeldes, 1993. "The Importance of Precautionary Motives in Explaining Individual and Aggregate Saving," NBER Working Papers 4516, National Bureau of Economic Research, Inc.
  14. Gale, Douglas, 1996. "What have we learned from social learning?," European Economic Review, Elsevier, vol. 40(3-5), pages 617-628, April.
  15. Christopher D Carroll, 1990. "Buffer-Stock Saving and the Life Cycle/Permanent Income Hypothesis," Economics Working Paper Archive 371, The Johns Hopkins University,Department of Economics, revised Aug 1996.
  16. Nicholas S. Souleles, 1999. "The Response of Household Consumption to Income Tax Refunds," American Economic Review, American Economic Association, vol. 89(4), pages 947-958, September.
  17. Carroll, Christopher D, 1994. "How Does Future Income Affect Current Consumption?," The Quarterly Journal of Economics, MIT Press, vol. 109(1), pages 111-47, February.
  18. McCarthy, Jonathan, 1995. "Imperfect insurance and differing propensities to consume across households," Journal of Monetary Economics, Elsevier, vol. 36(2), pages 301-327, November.
  19. Lettau, Martin, 1997. "Explaining the facts with adaptive agents: The case of mutual fund flows," Journal of Economic Dynamics and Control, Elsevier, vol. 21(7), pages 1117-1147, June.
  20. repec:cup:cbooks:9780521589819 is not listed on IDEAS
  21. Jonathan A. Parker, 1999. "The Reaction of Household Consumption to Predictable Changes in Social Security Taxes," American Economic Review, American Economic Association, vol. 89(4), pages 959-973, September.
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