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Household behavior and boom/bust cycles

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  • Nofsinger, John R.

Abstract

I describe household behavior in boom and bust economic cycles with a particular focus on the recent financial crisis. The behaviors are motivated by cognitive limitations and psychological bias. In boom times, households’ extrapolation bias and groupthink lead to chasing and extending asset bubbles (like tech stocks and real estate). Increasing use of debt spurs the economy and eventually overburdens households. In bust times, the biases and fear lead to selling previously popular assets at low prices. Households generally respond to bust times by spending less, repaying debt and saving more, which drags on an already slow economy. In addition, households influence businesses and governments into actions during the cycle. In the recent boom, predatory lenders preyed on cognitive limitations and biases of subprime borrowers to sell them high cost mortgages that they would not be able to repay. Another contributing factor is that during boom times, household attention is not focused on financial regulation. This is when business influences the political process and laws are enacted to loosen market regulation. These changes may extend the boom period into bubble territory. During bust times, public outcry influences politicians to tighten business regulation, likely inhibiting the economic rebound. Thus, household behavior plays an important role in economic boom/bust cycles.

Suggested Citation

  • Nofsinger, John R., 2012. "Household behavior and boom/bust cycles," Journal of Financial Stability, Elsevier, vol. 8(3), pages 161-173.
  • Handle: RePEc:eee:finsta:v:8:y:2012:i:3:p:161-173
    DOI: 10.1016/j.jfs.2011.05.004
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    3. Müge ÇETİNER & Ahmet Mete ÇİLİNGİRTÜRK, 2019. "The Effect of Social Networks on Financial Literacy," Sosyoekonomi Journal, Sosyoekonomi Society, issue 27(41).
    4. Aneta Maria Kłopocka, 2017. "Does Consumer Confidence Forecast Household Saving and Borrowing Behavior? Evidence for Poland," Social Indicators Research: An International and Interdisciplinary Journal for Quality-of-Life Measurement, Springer, vol. 133(2), pages 693-717, September.
    5. Apergis, Nicholas, 2015. "Financial portfolio choice: Do business cycle regimes matter? Panel evidence from international household surveys," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 34(C), pages 14-27.
    6. Muhl, Stefan & Talpsepp, Tõnn, 2018. "Faster learning in troubled times: How market conditions affect the disposition effect," The Quarterly Review of Economics and Finance, Elsevier, vol. 68(C), pages 226-236.
    7. Martin Hodula & Simona Malovana & Jan Frait, 2019. "Introducing a New Index of Households' Macroeconomic Conditions," Working Papers 2019/10, Czech National Bank.
    8. Marina Matosec & Zdenka Obuljen Zoricic, 2019. "Identifying the Interdependence between Consumer Confidence and Macroeconomic Developments in Croatia," Interdisciplinary Description of Complex Systems - scientific journal, Croatian Interdisciplinary Society Provider Homepage: http://indecs.eu, vol. 17(2-B), pages 345-354.
    9. Simona Malovaná & Martin Hodula & Jan Frait, 2021. "What Does Really Drive Consumer Confidence?," Social Indicators Research: An International and Interdisciplinary Journal for Quality-of-Life Measurement, Springer, vol. 155(3), pages 885-913, June.

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