Slow Information Diffusion and the Inertial Behavior of Durable Consumption

This paper studies the aggregate dynamics of durable and nondurable consumption under slow information diffusion (SID) due to noisy observations and learning within the permanent income framework. We show that SID can significantly improve the model’s predictions on the joint behavior of income, durable consumption, and nondurable consumption at the aggregate level. Specifically, we find that SID can significantly improve the model’s predictions for: (i) smoothness in durable and nondurable consumption, (ii) autocorrelation of durable consumption, and (iii) contemporaneous correlation between durable and nondurable consumption. Furthermore, we discuss that incorporating a fixed cost into our SID model does a better job of reproducing the infrequent adjustments of durable consumption at the individual level and the slow adjustments at the aggregate level.