We present an intertemporal model of consumption and savings incorporating liquidity constraints and non separable preferences. We solve the problem numerically and characterize the optimal consumption behavior. We explore the traditional puzzles highlighted in the empirical literature as excess smoothness of consumption, its excess sensitivity to current income and its excess persistence. We show that a model with durability and liquidity constraints is able to reproduce some of the stylized facts. Next we show that some of the econometric tests are not robust and can mistake liquidity constraints for habit formation. Hence previous results establishing habit formation on US data should be interpreted with caution.

Hall [1978] showed that the life cycle consumption hypothesis implies a first order autoregressive process for the marginal utility of consumption. This paper extends his results by showing that an appropriate pattern of rational habits will lead to an arbitrary autoregressive integrated moving average (ARIMA) process for consumption. Since the framework allows for consumption of durable goods, the analysis extends the results of Mankiw [1982]

We estimate a model with equilibrium unemployment explained by a search process on the labor market. We find that the matching function has increasing returns to scale and we show that this model may display fluctuations at business cycle frequencies even when there are no shocks to the fundamentals of the economy. In particular, self-fulfilling beliefs, or “animal spirits”, can explain the fluctuations around the Beveridge curve observed in the French, German and U.K. economies.