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Non-Fungibility and Mental Accounting: A Model of Bounded Rationality with Sunspot

  • Aditya Goenka

In this paper we consider a model where some consumers act in a boundedly rational way by treating money as non-fungible (Kahneman and Tversky (1979) and (1984), Thaler (1987) and (1990). The budget is broken up into different expenditure groups (cookie-jars). Given the amount of resources allocated to a given expenditure group, boundedly rational consumers then decide how to spend the resources on commodities in that expenditure group. We study the general equilibrium effects of these `mental accounting systems'. An important implication of such behaviour is that consumers can act as if they are credit constrained even when they are not. It is shown that such environments are prone to self-fulfilling fluctuations. In three polar cases: (i) Where nearly every consumer is rational; (ii) Where the consumers are either rational or nearly rational; or (iii) If every consumer is boundedly rational and has an expenditure weight for each commodity, there are no self-fulfilling fluctuations. We also characterize properties of the demand functions so the demand of boundedly rational consumers can be distinguished from that of consumers whose first best behaviour is to have fixed expenditure weights

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Paper provided by Econometric Society in its series Econometric Society 2004 Australasian Meetings with number 234.

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Date of creation: 11 Aug 2004
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Handle: RePEc:ecm:ausm04:234
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  1. Dimitri Vayanos, 2003. "The Decentralization of Information Processing in the Presence of Interactions," Review of Economic Studies, Wiley Blackwell, vol. 70(3), pages 667-695, 07.
  2. Balasko, Yves & Cass, David & Shell, Karl, 1995. "Market Participation and Sunspot Equilibria," Review of Economic Studies, Wiley Blackwell, vol. 62(3), pages 491-512, July.
  3. Radner, Roy, 1993. "The Organization of Decentralized Information Processing," Econometrica, Econometric Society, vol. 61(5), pages 1109-46, September.
  4. Samuelson, William & Zeckhauser, Richard, 1988. " Status Quo Bias in Decision Making," Journal of Risk and Uncertainty, Springer, vol. 1(1), pages 7-59, March.
  5. Goenka, Aditya, 1994. "Fiscal Rules and Extrinsic Uncertainty," Economic Theory, Springer, vol. 4(3), pages 401-16, May.
  6. Roth, Alvin E., 1986. "Laboratory Experimentation in Economics," Economics and Philosophy, Cambridge University Press, vol. 2(02), pages 245-273, October.
  7. Amos Tversky & Daniel Kahneman, 1979. "Prospect Theory: An Analysis of Decision under Risk," Levine's Working Paper Archive 7656, David K. Levine.
  8. Benartzi, Shlomo & Thaler, Richard H, 1995. "Myopic Loss Aversion and the Equity Premium Puzzle," The Quarterly Journal of Economics, MIT Press, vol. 110(1), pages 73-92, February.
  9. Balasko, Yves, 1990. "Equivariant general equilibrium theory," Journal of Economic Theory, Elsevier, vol. 52(1), pages 18-44, October.
  10. Akerlof, George A & Yellen, Janet L, 1985. "A Near-rational Model of the Business Cycle, with Wage and Price Intertia," The Quarterly Journal of Economics, MIT Press, vol. 100(5), pages 823-38, Supp..
  11. Goenka Aditya, 1994. "Rationing and Sunspot Equilibria," Journal of Economic Theory, Elsevier, vol. 64(2), pages 424-442, December.
  12. Cass, David & Shell, Karl, 1983. "Do Sunspots Matter?," Journal of Political Economy, University of Chicago Press, vol. 91(2), pages 193-227, April.
  13. Charles Blackorby & R. Robert Russell, 1996. "Two-stage budgeting: An extension of Gorman's theorem," Economic Theory, Springer, vol. 9(1), pages 185-193.
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