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Consumption with liquidity constraints: An analytical characterization

Martin Holm ()

Economics Letters, 2018, vol. 167, issue C, 40-42

Abstract: How do liquidity constraints affect households? This is a well-researched subject with remarkably few theoretical results. This paper bridges this gap by providing a closed form expression for consumption with liquidity constraints for a wide class of utility functions (HARA). Using this expression, I prove that the consumption function is strictly concave in wealth if a relevant liquidity constraint exists. Moreover, households respond to a tightening of the liquidity constraint by reducing consumption, becoming more sensitive to wealth changes, and having a “more” concave consumption function in wealth. These results thus provide theoretical underpinnings for how contractions in credit supply affect households.

Keywords: Consumption; Liquidity constraints (search for similar items in EconPapers)
JEL-codes: D11 D91 E21 (search for similar items in EconPapers)
Date: 2018
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Handle: RePEc:eee:ecolet:v:167:y:2018:i:c:p:40-42