Habit Formation and the Environment

This research project is concerned with the analysis of the impact of habits on household and firm behavior in economic theory. While habit formation is emphasized in the socio-psychological literature - as, e.g., in Scitovsky`s "The Joyless Economy" - it is seldom taken into account in standard economic analyses. There are two main links between habit formation, the economy and the environment. First, habit formation is likely to influence household savings, which in turn determine economic growth and capital intensity. Both of the latter are closely related to environmental quality. Second, environmental quality itself might be subject to habit formation, which influences household consumption and saving over time. The framework of the analysis is provided by neoclassical general equilibrium theory in general and by the overlapping generations models tradition in particular. The project contributes to economic analysis in two ways. First, environmental issues are viewed mainly from the production sphere in textbooks on environmental economics. Preferences, in general, have been widely ignored, and habits, in particular, have only been recently taken into account when analyzing environmental problems. Second, the theoretical results are used for the development of a computable general equilibrium (CGE) model. By simulation of specific policy programs, this model allows for a numerical assessment of the impact of habits on the effects of the policy programs.