Habit Formation in Consumption and Its Implications for Monetary-Policy Models
Fuhrer, Jeffrey C. 2000. "Habit Formation in Consumption and Its Implications for Monetary-Policy Models."
American Economic Review,
This paper explores a monetary-policy model with habit formation for consumers, in which consumers' utility depends in part on current consumption relative to past consumption. The empirical tests developed in the paper show that one can reject the hypothesis of no habit formation with tremendous confidence, largely because the habit-formation model captures the gradual hump-shaped response of real spending to various shocks. The paper then embeds the habit-consumption specification in a monetary-policy model and finds that the responses of both spending and inflation to monetary-policy actions are significantly improved by this modification.
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Fuhrer, Jeffrey C. (Federal Reserve Bank of Boston)
E52: Monetary Policy
E21: Macroeconomics: Consumption; Saving; Wealth
E43: Determination of Interest Rates; Term Structure of Interest Rates