Reference-Dependent Consumption with Endogenous Labor Supply

Abstract

This paper investigates time-consistent plans by incorporating the reference-dependent consumption model with endogenous labor supply. To what extent these plans can help the consumer overcome the double self-control problems of over-consumption and late-retirement is discussed. The consumption level and labor supply of the preferred personal equilibrium solution are compared with those of ex-ante optimal solution and present-biased solution. For all preferred personal equilibrium plans, both consumption level and labor supply are lower than those of the consumer who is present-biased but without reference-dependent preference. Although the preferred personal equilibrium solutions do not include the ex-ante optimal level, they help mitigate the welfare loss caused by present bias.