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American Economic Review: Vol. 99 No. 3 (June 2009)

AER Volume. 99, Issue 3 | Previous ArticleNext Article

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Reference-Dependent Consumption Plans

Article Citation

Kőszegi, Botond, and Matthew Rabin. 2009. "Reference-Dependent Consumption Plans." American Economic Review, 99(3): 909-36.

DOI: 10.1257/aer.99.3.909

Abstract

We develop a rational dynamic model in which people are loss averse over changes in beliefs about present and future consumption. Because changes in wealth are news about future consumption, preferences over money are reference-dependent. If news resonates more when about imminent consumption than when about future consumption, a decision maker might (to generate pleasant surprises) overconsume early relative to the optimal committed plan, increase immediate consumption following surprise wealth increases, and delay decreasing consumption following surprise losses. Since higher wealth mitigates the effect of bad news, people exhibit an unambiguous first-order precautionary-savings motive. (JEL D14, D81, D83, D91)

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Online Appendix (197.09 KB)

Authors

Kőszegi, Botond (U CA, Berkeley)
Rabin, Matthew (U CA, Berkeley)

JEL Classifications

D14: Personal Finance
D81: Criteria for Decision-Making under Risk and Uncertainty
D83: Search; Learning; Information and Knowledge; Communication; Belief
D91: Intertemporal Consumer Choice; Life Cycle Models and Saving