Derivation of consumption function considering past consumption and consumption of others based on prospect theory

Abstract

Conventional consumption functions are obtained by solving the condition that the Cobb-Douglas utility function is maximized under the budget constraint equation. Nakazawa (2014) constructed a model in which the consumption in the utility function is replaced by its ratio or difference to the reference point, based on the prospect theory. Here, only the past consumption is considered as the reference point. In reality, however, not only the past consumption but also the consumption of others becomes the reference point, and may affect the satisfaction of people. In this research, we extend the model of Nakazawa (2014) and construct a model that considers both past consumption and consumption of others as a reference point.