Keeping Up with the Joneses, Reference Dependence, and Equilibrium Indeterminacy

27 Pages Posted: 5 May 2005

See all articles by Livio Stracca

Livio Stracca

European Central Bank (ECB)

Ali al-Nowaihi

University of Leicester - Department of Economics

Date Written: February 2005

Abstract

This model extends the keeping up with the Joneses (KUJ) model to incorporate the notion that positional concerns in consumption are best modelled with a reference dependence specification of preferences, as postulated by Tversky and Kahneman (1991) in the context of riskless choice. In line with this specification, which has received substantial empirical support in the literature, we assume that the marginal returns on the own consumption are increasing below the aggregate per capita levels of consumption (which is the reference point in our model). The main conclusion of the paper is that in our KUJ model aggregate consumption may be subject to sunspot fluctuations and the equilibrium level of consumption is not uniquely pinned down. The paper also discusses the role that fiscal policy can play in order to undo the effect of consumption externalities on both the determinacy and the desirability of the equilibrium.

Keywords: Consumption externalities, keeping up with the Joneses, reference dependence, equilibrium indeterminacy, optimal taxation

JEL Classification: D11, H21

Suggested Citation

Stracca, Livio and al-Nowaihi, Ali, Keeping Up with the Joneses, Reference Dependence, and Equilibrium Indeterminacy (February 2005). Available at SSRN: https://ssrn.com/abstract=657863 or http://dx.doi.org/10.2139/ssrn.657863

Livio Stracca (Contact Author)

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany
0049 69 13440 (Phone)
0044 69 1344 6000 (Fax)

Ali Al-Nowaihi

University of Leicester - Department of Economics ( email )

Department of Economics
Leicester LE1 7RH, Leicestershire LE1 7RH
United Kingdom

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