Consumption paths under prospect utility in an optimal growth model

Reto Foellmi; Rina Rosenblatt-Wisch; Klaus Reiner Schenk-Hoppé

This paper studies the Cass-Koopmans-Ramsey model of optimal economic growth in the presence of loss aversion and habit formation. The representative agent's preferences for consumption can be gradually varied between the standard constant intertemporal elasticity of substitution (CIES) case and Kahneman and Tversky's prospect utility. We find that the transitional dynamics of optimal consumption paths differ distinctly from the standard model, in particular consumption smoothing is more pronounced. We also show that prospect utility can cause the economy to remain in a steady state with low consumption and low capital. -- Ramsey growth model ; prospect theory ; loss aversion ; optimal consumption

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Year of publication:	2010
Authors:	Foellmi, Reto ; Rosenblatt-Wisch, Rina ; Schenk-Hoppé, Klaus Reiner
Publisher:	Bern : [Univ., Fac. of Economics and Social Sciences, Dep. of Economics]
Subject:	Cass-Koopmans-Ramsey model \| Kahneman and Tversky's prospect utility \| Optimales Wachstum \| Optimal growth \| Prospect Theory \| Prospect theory \| Risikoaversion \| Risk aversion \| Erwartungsnutzen \| Expected utility \| Nachfragetheorie des Haushalts \| Consumer demand theory \| Substitutionselastizität \| Elasticity of substitution \| Neoklassisches Wachstumsmodell \| Neoclassical growth model \| Theorie \| Theory