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Consumption with Habit Formation

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  • Aylin Seckin

Abstract

In a representative-agent model of intertemporal consumption-saving with stochastic income and habit formation, we have shown that precautionary savings observed in the data cannot be attributed only to income uncertainty, but also to the time-non-separability of preferences. We have found that, with habit-forming preferences, consumption depends not only on permanent income but also on past consumption and the stronger the habits the lower the effect of income uncertainty on consumption. For a given constant coefficient of risk aversion, habit-forming consumer will have smaller precautionary savings per unit of income risk faced than the one with time-separable preferences. By allowing habit forming preferences in consumption, a closed form solution, explaining excess-sensitivity, excess-smoothness and excess-growth puzzles of consumption, and thus, providing a better framework for empirically testing the behavior of consumption over the business cycle, is found with only i.i.d. income innovations. Dans un modèle intertemporel de consommation et d'épargne avec revenu stochastique et formation d'habitudes, nous avons démontré que l'épargne précautionnelle observée dans les données peut être attribuée non seulement à l'incertitude de revenu0501s aussi à l'inséparabilité des préférences. Nous avons trouvé que, avec les préférences qui forment des habitudes, la consommation dépend non seulement du revenu permanent0501s aussi de niveaux de consommations passés. De plus, plus les habitudes sont résistantes, moins grand sera l'effet de l'incertitude de revenu sur la consommation. Pour un coéfficient constant fixé de l'aversion au risque, le consommateur avec habitudes va avoir une épargne précautionnelle plus basse par unité de risque de revenu par rapport à celle avec des préférences temps-séparables. En introduisant la formation d'habitudes dans la consommation, et en supposant seulement des innovations i.i.d., nous avons trouvé une solution fermée qui explique les trois énigmes de consommation, l'excès de sensitivité, l'excès de lisseté et l'excès de croissance anticipée, et qui propose un meilleur modèle pour tester le trajet de la consommation pendant le cycle économique.

Suggested Citation

  • Aylin Seckin, 2000. "Consumption with Habit Formation," CIRANO Working Papers 2000s-39, CIRANO.
  • Handle: RePEc:cir:cirwor:2000s-39
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    File URL: http://www.cirano.qc.ca/files/publications/2000s-39.pdf
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    References listed on IDEAS

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    1. Benoit A. Aubert & Michel Patry & Suzanne Rivard & Heather Smith, 2000. "IT Outsourcing Risk Management at British Petroleum," CIRANO Working Papers 2000s-31, CIRANO.
    2. Marcel Boyer, 1999. "Les Expos, l'OSM, les universités, les hôpitaux : Le coût d'un déficit de 400 000 emplois au Québec = Expos, Montreal Symphony Orchestra, Universities, Hospitals: The Cost of a 400,000-Job Shortfall i," CIRANO Papers 99c-01, CIRANO.
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    Cited by:

    1. Rob Alessie & Federica Teppa, 2010. "Saving and habit formation: evidence from Dutch panel data," Empirical Economics, Springer, vol. 38(2), pages 385-407, April.
    2. repec:eee:jetheo:v:172:y:2017:i:c:p:55-87 is not listed on IDEAS
    3. Luo, Yulei & Nie, Jun & Wang, Gaowang & Young, Eric R., 2017. "Rational inattention and the dynamics of consumption and wealth in general equilibrium," Journal of Economic Theory, Elsevier, vol. 172(C), pages 55-87.
    4. de la Croix, David, 2000. "Standard-of-Living Aspirations and Economic Cycles," Discussion Papers (IRES - Institut de Recherches Economiques et Sociales) 2000008, Université catholique de Louvain, Institut de Recherches Economiques et Sociales (IRES).
    5. Arjen Siegmann, 2003. "Shortfall allowed: loss aversion and habit formation," WO Research Memoranda (discontinued) 741, Netherlands Central Bank, Research Department.

    More about this item

    Keywords

    Intertemporal consumption-saving; habit formation; dynamic programming; Consommation/épargne intertemporelles; formation d'habitudes; programmation dynamique;

    JEL classification:

    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth

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