Identifying key aspects of household behavior in a representative agent framework

Abstract

We study three key aspects of household behavior, i.e. the form of household preferences, the existence of interdependence between consumption and leisure choices, and the Frisch elasticity of labor supply. We find that an appropriate form of household preferences to use in non-recursive utility functions that incorporates the feature of interdependence is of the Cobb-Douglas type. By solving the household maximization problem, we derive a simultaneous system of two equations, a consumption equation and a labor supply equation, and estimate them with non-linear GMM. Regarding our estimates, the weight of consumption in the utility function, which is on the upper side of the relevant estimates in the literature, and the elasticity of intertemporal substitution seem to drive up the Frisch elasticity value. Our work highlights the importance of both the choice of the form of household preferences and the appropriate estimation procedure in the household maximization problem for obtaining reasonable values of the preference parameters, especially the Frisch elasticity. Our results may be useful for researchers working with the calibration of preference parameters in DSGE models.