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Consumption growth, the interest rate, and financial sophistication*



We propose a model in which financial sophistication improves portfolio returns and therefore the incentive to substitute consumption intertemporally. The model delivers an Euler equation in which consumption growth is positively correlated with financial sophistication. We test the model's prediction using panel data on consumption and financial sophistication drawn from the Italian Survey of Household Income and Wealth. We find that consumption growth is positively correlated with financial sophistication, as predicted by the model. We also provide estimates of the intertemporal elasticity of substitution in the range between 0.4 and 0.6.



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We thank Marco Pagano and Luigi Pistaferri for helpful comments. We also thank the Italian Ministry of Education, University and Research (PRIN Project) and the European Commission 7th Framework Programme (MOPACT, SSH-2012-1/No 320333) for financial support. The opinions expressed in this article are the authors' own and do not reflect the view of Commissione di Vigilanza sui Fondi Pensione.



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Consumption growth, the interest rate, and financial sophistication*



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