Working Paper: CEPR ID: DP2651
Authors: Per Krusell; Anthony A. Smith Jr.
Abstract: How do individuals with time-inconsistent preferences make consumption-savings decisions? We try to answer this question by considering the simplest possible form of consumption-savings problem, assuming that discounting is quasi-geometric. A solution to the decision problem is then a subgame-perfect equilibrium of a dynamic game between the individual's ?successive selves?. When the time horizon is finite, our question has a well-defined answer in terms of primitives. When the time horizon is infinite, we are left without a sharp answer: we cannot rule out the possibility that two identical individuals in the exact same situation make different decisions! In particular, there is a continuum of dynamic equilibria even if we restrict attention to equilibria where current consumption decisions depend only on current wealth.
Keywords: indeterminacy; quasigeometric discounting; time inconsistency
JEL Codes: C73; D90; E21
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| quasigeometric discounting (D15) | time-inconsistent preferences (D15) |
| time-inconsistent preferences (D15) | differences in decision-making over time (D91) |
| expectations about future savings behavior (D14) | current savings decisions (D15) |
| expectations about future savings behavior (D14) | current consumption decisions (D15) |
| high savings propensity expectation (E21) | increase in current savings (E21) |
| expectation to consume heavily (D12) | decrease in current savings (E21) |
| quasigeometric discounting (D15) | indeterminacy of equilibria in consumption-savings decision-making (D15) |
| indeterminacy of equilibria (D59) | radically different decisions by identical individuals (D91) |
| expectations about future behavior (D84) | significantly different consumption and savings outcomes (E21) |