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Consumption Theory with Reference Dependent Utility

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  • Andersson, Fredrik W.

    () (Department of Economics, School of Business, Economics and Law, Göteborg University)

Abstract

This paper presents a closed form consumption function for an individual when he derives utility from both his current and previous consumption and from the consumption of his relevant others. I show that the traditional definition of an individual's marginal propensity to consume (MPC) is too narrow. With existing knowledge we would call for a broader definition of the MPC that I coin as the individual's total MPC, which also takes into account the consumption change of the relevant others, and this affects that total MPC is smaller than the traditional MPC.

Suggested Citation

  • Andersson, Fredrik W., 2006. "Consumption Theory with Reference Dependent Utility," Working Papers in Economics 226, University of Gothenburg, Department of Economics.
  • Handle: RePEc:hhs:gunwpe:0226
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    File URL: http://hdl.handle.net/2077/2718
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    References listed on IDEAS

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    1. Hall, Robert E, 1978. "Stochastic Implications of the Life Cycle-Permanent Income Hypothesis: Theory and Evidence," Journal of Political Economy, University of Chicago Press, vol. 86(6), pages 971-987, December.
    2. Carroll, Christopher D & Overland, Jody & Weil, David N, 1997. "Comparison Utility in a Growth Model," Journal of Economic Growth, Springer, vol. 2(4), pages 339-367, December.
    3. Abel Andrew B. & Mailath George J., 1994. "Financing Losers in Competitive Markets," Journal of Financial Intermediation, Elsevier, pages 139-165.
    4. Jaime Alonso-Carrera & Jordi Caballé & Xavier Raurich, 2004. "Consumption Externalities, Habit Formation and Equilibrium Efficiency," Scandinavian Journal of Economics, Wiley Blackwell, pages 231-251.
    5. Scitovsky, Tibor, 1992. "The Joyless Economy: The Psychology of Human Satisfaction," OUP Catalogue, Oxford University Press, number 9780195073478.
    6. Alessie, Rob & Lusardi, Annamaria, 1997. "Consumption, saving and habit formation," Economics Letters, Elsevier, vol. 55(1), pages 103-108, August.
    7. Andersson, Fredrik W., 2006. "Is Concern for Relative Consumption a Function of Relative Consumption?," Working Papers in Economics 220, University of Gothenburg, Department of Economics.
    8. Abel, Andrew B, 1990. "Asset Prices under Habit Formation and Catching Up with the Joneses," American Economic Review, American Economic Association, pages 38-42.
    9. Alpizar, Francisco & Carlsson, Fredrik & Johansson-Stenman, Olof, 2005. "How much do we care about absolute versus relative income and consumption?," Journal of Economic Behavior & Organization, Elsevier, vol. 56(3), pages 405-421, March.
    10. Carroll, Christopher D., 2000. "Solving consumption models with multiplicative habits," Economics Letters, Elsevier, vol. 68(1), pages 67-77, July.
    11. J. Solnick, Sara & Hemenway, David, 1998. "Is more always better?: A survey on positional concerns," Journal of Economic Behavior & Organization, Elsevier, vol. 37(3), pages 373-383, November.
    12. Ferrer-i-Carbonell, Ada, 2005. "Income and well-being: an empirical analysis of the comparison income effect," Journal of Public Economics, Elsevier, pages 997-1019.
    13. Olof Johansson-Stenman & Fredrik Carlsson & Dinky Daruvala, 2002. "Measuring Future Grandparents" Preferences for Equality and Relative Standing," Economic Journal, Royal Economic Society, vol. 112(479), pages 362-383, April.
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    More about this item

    Keywords

    Consumption decision; consumption of relevant others; habit- formation behavior; marginal propensity to consume; excess smoothness;

    JEL classification:

    • D91 - Microeconomics - - Micro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making
    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth

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