The Cost of Unanticipated Household Financial Shocks: Two Examples
20 Pages Posted: 19 Dec 2012
Date Written: 2011
This article presents two simple calculations aimed at providing a first step in quantifying the costs of unanticipated financial shocks to a household. The two types of shocks considered are (1) an unanticipated drop in net worth and (2) an unexpected increase in the interest rate on borrowing. The shocks are faced by households in a life-cycle consumption-savings model and the costs are measured in terms of annual consumption. In general, for empirically plausible shocks, the results show that net worth shocks are substantially costlier than interest rate shocks. The costs of the shocks also vary systematically with the age of the household, with the net worth shock being especially costly for older households.
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