A Network Approach to Consumption

TL;DR

This paper introduces a network-based model of consumption driven by perception networks, explaining consumption behavior and inequality dynamics, and highlighting the impact of social network topology on consumption patterns.

Contribution

It presents the first explicit modeling of reference groups in consumption externalities using perception networks, bridging micro-level behavior with macroeconomic inequality.

Findings

Network topology significantly influences consumption patterns.

The model replicates key stylized facts of consumption behavior.

Explicit reference groups clarify ambiguous empirical results.

Abstract

The nexus between debt and inequality has attracted considerable scholarly attention in the wake of the global financial crisis. One prominent candidate to explain the striking co-evolution of income inequality and private debt in this period has been the theory of upward-looking consumption externalities leading to expenditure cascades. We propose a parsimonious model of upward-looking consumption at the micro level mediated by perception networks with empirically plausible topologies. This allows us to make sense of the ambiguous empirical literature on the relevance of this channel. Up to our knowledge, our approach is the first to make the reference group to which conspicuous consumption relates explicit. Our model, based purely on current income, replicates the major stylised facts regarding micro consumption behaviour and is thus observationally equivalent to the workhorse permanent income hypothesis, without facing its dual problem of `excess smoothness' and `excess sensitivity'. We also demonstrate that the network topology and segregation has a significant effect on consumption patterns which has so far been neglected.