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Habits, costly investment, and current account dynamics

  • Ikeda, Shinsuke
  • Gombi, Ichiro

Using a small country model with habit-forming consumers and costly investment, we analyze equilibrium dynamics of the economy and derive empirical and welfare implications. The model can mimic some stylized facts: (i) a temporary increase in fiscal spending always deteriorates the current account whereas a permanent increase in fiscal spending may have a weaker effect; (ii) permanent productivity shocks deteriorate the current account; and (iii) savings and investment tend to co-move upon macroeconomic shocks. Strong habit persistence causes sluggishness in welfare dynamics. Consequently, a beneficial fiscal policy may have a harmful hangover effect on the future welfare.

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Article provided by Elsevier in its journal Journal of International Economics.

Volume (Year): 49 (1999)
Issue (Month): 2 (December)
Pages: 363-384

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Handle: RePEc:eee:inecon:v:49:y:1999:i:2:p:363-384
Contact details of provider: Web page: http://www.elsevier.com/locate/inca/505552

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  1. Shi, Shouyong & Epstein, Larry G, 1993. "Habits and Time Preference," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 34(1), pages 61-84, February.
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  13. Phillip A. Braun & George M. Constantinides & Wayne E. Ferson, 1992. "Time Nonseparability in Aggregate Consumption: International Evidence," NBER Working Papers 4104, National Bureau of Economic Research, Inc.
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