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Credit Constraints, Learning and Aggregate Consumption Volatility


  • Daniel Tortorice

    () (Department of Economics, Brandeis University)


This paper documents three empirical facts. First, the volatility of consumption growth relative to income growth rose from 1947-1960 and then fell dramatically by 50 percent from the 1960s to the 1990s. Second, the correlation between consumption growth and personal income growth fell by about 50 percent over the same time period. Finally, the absolute deviation of consumption growth from its mean exhibits one break in U.S. data, and the mean of the absolute deviations has fallen by about 30 percent. First, I find that a standard dynamic, stochastic general equilibrium model is unable to explain these facts. Then, I examine the ability of two hypotheses: a fall in credit constraints and changing beliefs about the permanence of income shocks to account for these facts. I find evidence for both explanations and the beliefs explanation is more consistent with the data. Importantly, I find that estimated changes in beliefs about the permanence of income shocks have significant explanatory power for consumption changes.

Suggested Citation

  • Daniel Tortorice, 2007. "Credit Constraints, Learning and Aggregate Consumption Volatility," Working Papers 06, Brandeis University, Department of Economics and International Businesss School, revised Feb 2011.
  • Handle: RePEc:brd:wpaper:06

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    References listed on IDEAS

    1. Jushan Bai & Pierre Perron, 1998. "Estimating and Testing Linear Models with Multiple Structural Changes," Econometrica, Econometric Society, vol. 66(1), pages 47-78, January.
    2. Fatih Guvenen, 2007. "Learning Your Earning: Are Labor Income Shocks Really Very Persistent?," American Economic Review, American Economic Association, vol. 97(3), pages 687-712, June.
    3. Mark Aguiar & Gita Gopinath, 2007. "Emerging Market Business Cycles: The Cycle Is the Trend," Journal of Political Economy, University of Chicago Press, vol. 115, pages 69-102.
    4. Stephen G Cecchetti & Alfonso Flores-Lagunes & Stefan Krause, 2005. "Assessing the Sources of Changes in the Volatility of Real Growth," RBA Annual Conference Volume,in: Christopher Kent & David Norman (ed.), The Changing Nature of the Business Cycle Reserve Bank of Australia.
    5. Dynan, Karen E. & Elmendorf, Douglas W. & Sichel, Daniel E., 2006. "Can financial innovation help to explain the reduced volatility of economic activity?," Journal of Monetary Economics, Elsevier, vol. 53(1), pages 123-150, January.
    6. Margaret M. McConnell & Gabriel Perez-Quiros, 2000. "Output fluctuations in the United States: what has changed since the early 1980s?," Proceedings, Federal Reserve Bank of San Francisco, issue Mar.
    7. Jushan Bai & Pierre Perron, 2003. "Computation and analysis of multiple structural change models," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 18(1), pages 1-22.
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    Cited by:

    1. Dan Tortorice, 2016. "The Business Cycles Implications of Fluctuating Long Run Expectations," Working Papers 100, Brandeis University, Department of Economics and International Businesss School.

    More about this item


    Consumption; Business Fluctuations; Learning;

    JEL classification:

    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness


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