Introduction

Much empirical analysis of consumption and saving decisions abstracts from the existence of durable goods. Yet consumer durables represent an important part of the personal sector, wealth and decisions to purchase and sell durables have a major impact on overall consumer expenditure (and contribute to its marked pro–cyclical nature).

One reason for the relative neglect of consumer durables may be that satisfactory data are hard to come by. Aggregate purchase data are normally available but no information is usually provided that allows to distinguish between changes in the number of consumers who own and changes in the average stock owned. Also, no direct information is available on the value of the stock. Hence, few studies have taken the representative agent paradigm down the path of modeling consumption in durable goods (one exception is Dunn and Singleton, 1986). Furthermore, household–level data do not normally contain information on durables, beyond ownership and (at best) net purchases. This severely limits the scope for microeconometric research.

The ideal data set for the econometric analysis of durable goods consumption is a long panel, with high–quality information on all types of expenditure and retrospective questions concerning durable purchases and sales. Such a data set does not exist, and indeed is unlikely ever to exist: detailed questions on expenditure normally involve filling in diaries, and this is time–consuming. The ideal data set would likely suffer from serious attrition problems.

Introduction

The main goal of this chapter is to study the implications of intertemporal maximising behaviour for consumption and interest rates in a world where credit markets are imperfect, and to provide some evidence from Italian macroeconomic time series. This is done by generalising the standard Euler equation approach of Hansen and Singleton (1982) to allow for the possibility of net wealth constraints and liquidity services provided by some of the assets available to the representative consumer.

When financial markets are perfect and agents are risk neutral expected rates of return should be equalised. Even if agents are risk averse, assets with similar risk should produce equal expected returns. Thus, if we consider two assets which are affected only by inflation risk we would expect identical returns. An example would be interest-bearing deposits and short-term bonds, as long as the risk of default by both the bank and the company issuing bonds was negligible. Yet, inspection of time-series returns on such assets reveals that bonds stochastically dominate deposits.

The simplest explanation for the (first order) stochastic dominance of short-term bonds over deposits is provided by the existence of transaction costs on the goods market. If goods can be purchased only with money, monetary assets provide liquidity services which are valuable to the consumer. In the extreme case where ‘cash in advance’ is required, the intertemporal optimisation problem facing individual consumers includes an additional inequality constraint (Lucas, 1982; Svensson, 1985).