| In this dissertation I argue that the tools of standard consumption theory allow us to understand consumer behavior over the Great Recession remarkably well, provided that an increased need for precautionary savings, sparked by the recession, is taken into account. In the present work this increased need for precautionary savings is channeled through a tightening of liquidity constraints. Other than this, my reading of the recession is straightforward. American households cut their expenditures substantially over the Great Recession, because they were responding to very large negative shocks to their wealth, their income, and their expectations about future income growth.;In the first chapter, I examine household survey data from the Panel Study of Income Dynamics (PSID). I show that larger drops in wealth are associated with larger drops in expenditures, and that liquidity constraints act as a contributing factor in the consumption decline.;In the second chapter, I fit a structural stochastic lifecycle model to PSID data and quantify the contribution of wealth losses, changes in expectations about future income growth, and a tightening of liquidity constraints to the drop in household expenditures. I find that changes in wealth and expectations account for 60% of the drop in expenditure growth, while tighter liquidity can explain an additional 30%. |
