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Durable Goods, Borrowing Constraints and Consumption Insurance

  • Cerletti, Enzo
  • Pijoan-Mas, Josep

In this paper we study the transmission of income shocks into nondurable consumption in the presence of durable goods. We use a standard a life-cycle model with two goods to characterize the interaction of durability of goods, durability of shocks, and borrowing constraints as determinants of shock transmission. We show that borrowing constraints lead to a substitution between durable and non-durable goods upon arrival of an unexpected income change. This substitution biases the conventional measures of insurance based on the response of non-durable consumption to income changes. The sign of this bias depends critically on the persistence of the shock. We show that households have less insurance against transitory shocks and more insurance against permanent shocks than commonly measured. We calibrate the model economy to the US in order to measure the size of this bias.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 9035.

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Date of creation: Jul 2012
Date of revision:
Handle: RePEc:cpr:ceprdp:9035
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  1. Martin Browning & Thomas F. Crossley, 2009. "Shocks, Stocks, and Socks: Smoothing Consumption Over a Temporary Income Loss," Journal of the European Economic Association, MIT Press, vol. 7(6), pages 1169-1192, December.
  2. Jonathan Heathcote & Fabrizio Perri & Giovanni L. Violante, 2009. "Unequal We Stand: An Empirical Analysis of Economic Inequality in the United States, 1967-2006," NBER Working Papers 15483, National Bureau of Economic Research, Inc.
  3. Greg Kaplan, 2010. "Moving back home: insurance against labor market risk," Staff Report 449, Federal Reserve Bank of Minneapolis.
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