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Commitment vs. Flexibility ∗

By Manuel Amador, Iván Werning, George-marios Angeletos, We Thank Comments, Suggestions From Daron Acemoglu, Andy Atkeson, Paco Buera, Peter Diamond, Doireann Fitzgerald, Narayana Kocherlakota, Especially Pablo Werning and Torcuato Di Tella

Abstract

We study the optimal tradeoff between commitment and flexibility in a consumption-savings model. Individuals expect to receive relevant information regarding tastes, and thus value the flexibility provided by larger choice sets. On the other hand, they also expect to suffer from temptation, with or without self-control, and thus value the commitment afforded by smaller choice sets. The optimal commitment problem we study is to find the best subset of the individual’s budget set. We show that the optimal commitment problem leads to a principal-agent formulation. We find that imposing a minimum level of savings is always a feature of the solution. Necessary and sufficient conditions are derived for minimum-savings policies to completely characterize the solution. Individuals may perfectly mimic such a policy with a portfolio of liquid and illiquid assets. We discuss applications of our results to situations with similar tradeoffs, such as paternalism, the design of fiscal constitutions to control government spending, and externalities

Year: 2011
OAI identifier: oai:CiteSeerX.psu:10.1.1.189.1106
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