Essays on business cycles and consumption theory.

This dissertation examines topics of business cycles and consumption. The first chapter studies the investment boom in the 1990s, which was sharply reversed in 2001. Standard equilibrium business cycle models have difficulties in predicting the investment boom and overshooting. A novel embodied technology and learning model is constructed that replicates the pattern of investment boom and collapse in the 1990s. New technology is assumed to increase the productivity of capital of all vintages, but only new capital can facilitate the adoption of the new technology. In addition, agents have imperfect information about the magnitude of technology shocks. A sufficient condition for a persistent investment boom and overshooting is presented. The model is solved numerically in a dynamic general equilibrium (DGE) setup as well. The model extends the standard DGE business cycle models in two ways: first, it presents a strong internal propagation mechanism; second, it generates endogenous recessions without invoking technology regress. The second chapter presents a model addressing why the marginal propensity to consume is large for small transitory unanticipated income shocks but small for large shocks of the same type. Such relationship has been shown to be quite pronounced in empirical works but cannot be explained by the Rational Expectation Permanent Income Hypothesis (RE/PIH). The model in this chapter embeds the Cash-in-Advance and transaction cost assumptions in an otherwise standard consumption optimization model and explains the empirical findings well. At the same time the model predicts that consumers only respond to small anticipated income shocks with excess sensitivities but not to large shocks. In addition, the model sheds lights on the equity premium puzzle. The mechanism introduced in this model is a promising factor that contributes to account for the puzzle, though the mechanism alone is not able to explain the entire puzzle. The third chapter studies empirically how consumption responds to a particular type of anticipated income shocks. In the period after the last mortgage payment, homeowners experience an increase in their disposable income. The study tests whether households smooth consumption over the transition period as predicted by the RE/PIH. The study finds that households do not alter nondurable goods consumption in the period following the last mortgage payment. Instead, they increase both financial savings and savings in durable goods such as housefurnishings and entertainment equipments in the year of the last mortgage payment.Ph.D.Economic theoryEconomicsSocial SciencesUniversity of Michigan, Horace H. Rackham School of Graduate Studieshttp://deepblue.lib.umich.edu/bitstream/2027.42/126217/2/3238017.pd