Habit Formation and the Theory of Addiction

Abstract

In the light of repeated rejections of the Hall (1978) version of the life cycle-permanent income hypothesis and other empirical puzzles, the habit formation hypothesis has increased in popularity since the 1980s. However, existing formulations of habit persistence do not always perform well empirically. This paper pursues two objectives: (i) to outline the habit persistence hypothesis, and (ii) to review the theory of addiction with a focus on issues of relevance to the theory of consumption. In the literature on addiction, two research traditions are discernible: rational addiction and myopic addiction. The former approach emphasises forward-looking behaviour and defines memory loss as a univariate process. The latter relies on multiple objectives and highlights the role of contractual behaviour. The paper argues that future research in consumption with habits ought to pay more attention to non-separabilities, allow for multivariate processes when modelling memory loss and consider rational habit modification.

What Price Drug Use? The Contribution of Economics to an Evidence‐Based Drugs Policy

“…For more detailed discussions see Grossman et al (1998a), Neri and Heather (1995) and Stevenson (1994b), and for a reinterpretation of the model see Ferguson (2000). Also, for a more general discussion of the economics of habit formation and addiction see Messinis (1999) and Becker (1992); and for an overview of both economic and other approaches to addiction see Buck et al (1996) and Montoya and Atkinson (2000).…”

Interdependency among addictive behaviours and time/risk preferences: Discrete choice model analysis of smoking, drinking, and gambling

“…1 Referring to the related literature, there are two models of research regarding addictive behaviours: rational addiction and bounded rational addiction (Messinis, 1999). The rational addiction model argues that utility maximizing consumers consider the future consequences of their past and current consumption of addictive substances (Becker & Murphy, 1988;Stigler & Becker, 1977).…”

Optimal Capital Taxation for Time-Nonseparable Preferences

“…This case seems particularly relevant for capital taxation, because habit formation has helped explain savings behavior under uncertainty in several macroeconomic models as the survey by Messinis (1999) shows. Moreover, Heaton (1995) provides empirical evidence for intertemporal substitutability of consumption at short time-horizons, with habit formation occurring over periods of one year or longer.…”

“…Ravina (2007) finds strong support for habit formation based on micro level consumption data. For a review of habit formation in the macroeconomic literature see Messinis (1999).…”