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The rigidity of choice: Lifecycle savings with information-processing limits

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  • Antonella Tutino

Abstract

This paper studies the implications of information-processing limits on the consumption and savings behavior of households through time. It presents a dynamic model in which consumers rationally choose the size and scope of the information they want to process concerning their financial possibilities, constrained by a Shannon channel. The model predicts that people with higher degrees of risk aversion rationally choose more information. This happens for precautionary reasons since, with finite processing rate, risk averse consumers prefer to be well informed about their financial possibilities before implementing a consumption plan. Moreover, numerical results show that consumers with processing capacity constraints have asymmetric responses to shocks, with negative shocks producing more persistent effects than positive ones. This asymmetry results in more savings. I show that the predictions of the model can be effectively used to study the impact of tax reforms on consumers spending.

Suggested Citation

  • Antonella Tutino, 2008. "The rigidity of choice: Lifecycle savings with information-processing limits," Finance and Economics Discussion Series 2008-62, Board of Governors of the Federal Reserve System (U.S.).
  • Handle: RePEc:fip:fedgfe:2008-62
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    References listed on IDEAS

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    Cited by:

    1. Bartosz Maćkowiak & Mirko Wiederholt, 2015. "Business Cycle Dynamics under Rational Inattention," Review of Economic Studies, Oxford University Press, vol. 82(4), pages 1502-1532.
    2. Yulei Luo & Eric R. Young, 2010. "Risk-Sensitive Consumption and Savings under Rational Inattention," American Economic Journal: Macroeconomics, American Economic Association, vol. 2(4), pages 281-325, October.
    3. Mankiw, N. Gregory & Reis, Ricardo, 2010. "Imperfect Information and Aggregate Supply," Handbook of Monetary Economics,in: Benjamin M. Friedman & Michael Woodford (ed.), Handbook of Monetary Economics, edition 1, volume 3, chapter 5, pages 183-229 Elsevier.
    4. Luo Yulei & Young Eric R, 2009. "Rational Inattention and Aggregate Fluctuations," The B.E. Journal of Macroeconomics, De Gruyter, vol. 9(1), pages 1-43, April.

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    Keywords

    Consumption (Economics) ; Consumer behavior ; Saving and investment;

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