Extrapolative Uncertainty and Household Economic Behavior

Abstract

We examine the uncertainty in households’ expectations regarding macroeconomic outcomes, namely, inflation and the rate of nationwide home price growth. We document that people extrapolate from the instability of their personal and local environment when assessing the future volatility of these macroeconomic variables. Consequently, there are within-person spillovers in subjective uncertainty regarding different economic outcomes. This extrapolative behavior is more pronounced among lower-numeracy individuals, and it persists throughout the business cycle. People with more uncertain macroeconomic expectations are more likely to engage in precautionary behaviors regarding consumption and equity market exposure, and are more concerned about credit market access.

Keywords: uncertainty, extrapolation, expectations, precautionary behavior, consumption, credit, portfolio choice, socioeconomic status

JEL Classification: D14, D83, D84, G02, G11