The Economics of Consumption

Consumption decisions are crucial determinants of business cycles and growth. Knowledge of how consumers respond to the economic environment and how they react to the risks that they encounter during the life cycle is therefore crucial for evaluating stabilization policies and the effectiveness of fiscal packages implemented in response to economic downturns or financial crises. Do anticipated income changes have a different impact on consumption than unanticipated shocks? Do all consumers respond in the same way, or does the response vary by the economic circumstances and consumers’ characteristics? Do the rich increase consumption less than the poor when their income changes? In the past decades, economist have proposed many analytical perspectives, and studied these questions with a variety of data and approaches. This book attempts to guide readers through the most important theoretical papers in the field, and to evaluate theoretical models using facts or available empirical estimates. It is divided into three parts. The first seven chapters provide the basic ingredients of models with intertemporal choice, guiding the reader from a model without uncertainty to intertemporal models with precautionary saving and borrowing constraints. The central part of the book reviews recent empirical literature on the effect of income changes on consumption and on the relevance of precautionary saving. The last four chapters contain a selection of various extensions of the intertemporal model studied in the first part of the book.