Working Paper: NBER ID: w29517
Authors: Chen Lian
Abstract: In a canonical intertemporal consumption model, future consumption mistakes (in response to saving changes) lead to higher current marginal propensities to consume (MPCs). These mistakes increase the value of changing current consumption relative to changing saving, as additional saving will not be spent optimally. Various behavioral biases can cause these mistakes, such as inattention, present bias, diagnostic expectations, and near-rationality (epsilon-mistakes). This result helps explain the empirical puzzle of high-liquidity consumers’ high MPCs. In my approach, predictions of sophistication (anticipation of future mistakes) can be derived independently of the underlying biases.
Keywords: Behavioral Economics; Consumption; Marginal Propensity to Consume; Intertemporal Consumption
JEL Codes: D90; E21; E70; G40; G51
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| future consumption mistakes (D15) | higher current marginal propensities to consume (MPCs) (E21) |
| anticipation of future mistakes (D84) | higher current marginal propensities to consume (MPCs) (E21) |
| future consumption mistakes (D15) | less willingness to adjust saving (E21) |
| less willingness to adjust saving (E21) | more willingness to adjust current consumption (D11) |
| higher current marginal propensities to consume (MPCs) (E21) | adjust current consumption (E21) |
| future mistakes involve overreaction or underreaction (G41) | higher current marginal propensities to consume (MPCs) (E21) |