Optimal Consumption Decisions under Social Interactions

This paper examines the extent to which social interactions affect optimal consumption decisions in peer groups. To this purpose, a standard life-cycle model with quadratic utility is augmented to allow for three different forks of social interaction, namely, conformism, altruism, and jealousy. The analysis of this model also allows for habit formation, and is carried out under both homogeneous and disparate information sets. An important feature of the resulting individual-specific and group-average optimal consumption decisions is that even if individuals' preferences include a (potentially strong and possibly heterogeneous) motive for social interactions, under certain conditions these decisions will be equivalent to those in a peer group of self-centred individuals who attach no value to social interactions. The paper also provides a relatively simple framework for the empirical analysis of consumption behaviour in peer groups.