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Article
Risk-sensitive Consumption and Savings under Rational Inattention
American Economic Journal: Macroeconomics (2010)
  • Yulei Luo, University of Hong Kong
  • Eric R Young, University of Virginia
Abstract
This paper studies the consumption-savings behavior of households who have risk-sensitive preferences and suffer from limited information-processing capacity (rational inattention or RI). We first solve the model explicitly and show that RI increases precautionary savings by interacting with income uncertainty and risk-sensitivity. Given the closed-form solutions, we find that the RI model displays a wide range of observational equivalence properties, implying that consumption and savings data cannot distinguish between risk-sensitivity, robustness, or the discount factor, in any combination. We then show that the welfare costs from RI are larger for risk-sensitive households than any other observationally-equivalent settings.
Keywords
  • Risk-sensitivity,
  • Robust Control,
  • Rational Inattention,
  • Consumption Smoothing,
  • Precautionary Savings
Disciplines
Publication Date
2010
Citation Information
Yulei Luo and Eric R Young. "Risk-sensitive Consumption and Savings under Rational Inattention" American Economic Journal: Macroeconomics (2010)
Available at: http://0-works.bepress.com.library.simmons.edu/yulei_luo/3/