This paper tests an optimal (S, s) rule in household durable purchases and examines directly the resulting aggregate expenditure dynamics. The observed decision rule responds to income uncertainty and growth as predicted by an (S, s) model resulting from transactions costs. Tests against liquidity constraints find that about half the households purchase according to an optimal (S, s) rule. Aggregating the (S, s) rule over households produces a cross-section distribution of durables holdings. The empirical distribution is similar to that predicted theoretically, as is its response to aggregate shocks. Furthermore, simulations of aggregate expenditure based on the household distribution exhibit dynamics consistent with those observed in the 1980s.

This paper tests an optimal (S, s) rule in household durable purchases and examines directly the resulting aggregate expenditure dynamics. The observed decision rule responds to income uncertainty and growth as predicted by an (S, s) model resulting from transactions costs. Tests against liquidity constraints find that about half the households purchase according to an optimal (S, s) rule. Aggregating the (S, s) rule over households produces a cross-section distribution of durables holdings. The empirical distribution is similar to that predicted theoretically, as is its response to aggregate shocks. Furthermore, simulations of aggregate expenditure based on the household distribution exhibit dynamics consistent with those observed in the 1980s.

This paper extends the theory of investment under uncertainty to incorporate fixed costs of investment, a wedge between the purchase price and sale price of capital, and potential irreversibility of investment. In this extended framework, investment is a nondecreasing function of q, the shadow price of installed capital. The optimal rate of investment is in one of three regimes (positive, zero, or negative gross investment), depending on the value of q relative to two critical values. In general however, the shadow price q is not directly observable, so we present two examples relating q to observable variables.

�Inattentive agents update their information sporadically, and thus respond belatedly to news. We generate optimally inattentive behavior by assuming that to observe the value of his investment portfolio the consumer must pay a cost that is proportional to the portfolio’s contempo raneous value. It is optimal for the consumer to check his investment portfolio at equally spaced points in time, consuming from a riskless trans actions account in the interim. The riskless transactions account that finances consump tion guarantees that funds are never unwittingly exhausted. � We show that the optimal interval of time between consecutive observations of the value of the portfolio is the unique positive solution to a nonlinear equation. Quantitatively, even a small observation cost (one basis point of wealth) implies a substantial (eight-month) decision interval under conventional parameter values.