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Habit Formation: A Kind of Prudence?

  • Aylin Seckin
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    In this paper we have examined the relationship between habit formation and Kimball's concept of prudence. Using first, Kimball's two-period model we have shown that habit formation leads to a larger prudence premium and greater precautionary saving, provided that the individual has decreasing absolute prudence. Then, we have extended the model to investigate the relationship between prudence and habit formation in a multi-period framework. We have shown that, even when there is no habit formation, the prudence premium is not unambiguously positive unless the marginal propensity out of wealth is constant. Then we have found that it is not possible to conclude, even with the utility function exhibiting a simple form of habit formation, that habits increase or decrease the precautionary premium ''in the sense of Kimball'' when there exists multiple periods. Dans cet article, nous avons examiné la relation entre la formation d'habitudes et le concept de prudence de Kimball. En utilisant d'abord le modèle de deux périodes de Kimball, nous avons démontré que la formation d'habitudes mène à une prime de prudence plus élevée et une plus grande épargne précautionnelle, pourvu que l'individu ait une prudence absolue décroissante. Nous avons ensuite développé le modèle afin d'investiguer la relation entre prudence et formation d'habitudes dans un sytème à multiples périodes. Nous avons démontré que, même s'il n'y a pas de formation d'habitudes, la prime de prudence n'est pas positive sauf si la propension marginale à la richesse est constante. Par la suite, nous avons trouvé qu'il n'est pas possible de conclure, même dans le cas d'une fonction d'utilité avec une simple formation d'habitudes, que les habitudes augmentent ou diminuent la prime précutionnelle à la Kimball quand il y a de multiples périodes.

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    File URL: http://www.cirano.qc.ca/files/publications/2000s-42.pdf
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    Paper provided by CIRANO in its series CIRANO Working Papers with number 2000s-42.

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    Length: 31 pages
    Date of creation: 01 Oct 2000
    Date of revision:
    Handle: RePEc:cir:cirwor:2000s-42
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    1. Schechtman, Jack, 1976. "An income fluctuation problem," Journal of Economic Theory, Elsevier, vol. 12(2), pages 218-241, April.
    2. Carroll, Christopher D & Kimball, Miles S, 1996. "On the Concavity of the Consumption Function," Econometrica, Econometric Society, vol. 64(4), pages 981-92, July.
    3. Kimball, Miles S, 1990. "Precautionary Saving in the Small and in the Large," Econometrica, Econometric Society, vol. 58(1), pages 53-73, January.
    4. Miles Kimball & Philippe Weil, 2009. "Precautionary Saving and Consumption Smoothing across Time and Possibilities," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 41(2-3), pages 245-284, 03.
    5. Constantinides, George M, 1990. "Habit Formation: A Resolution of the Equity Premium Puzzle," Journal of Political Economy, University of Chicago Press, vol. 98(3), pages 519-43, June.
    6. Jody Overland & Christopher D. Carroll & David N. Weil, 2000. "Saving and Growth with Habit Formation," American Economic Review, American Economic Association, vol. 90(3), pages 341-355, June.
    7. Karen E. Dynan, 1993. "Habit formation in consumer preferences: evidence from panel data," Working Paper Series / Economic Activity Section 143, Board of Governors of the Federal Reserve System (U.S.).
    8. Wayne E. Ferson & George M. Constantinides, 1991. "Habit Persistence and Durability in Aggregate Consumption: Empirical Tests," NBER Working Papers 3631, National Bureau of Economic Research, Inc.
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