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Faculty Insights

Macro Policy and Household Economics

By Randall Wright

February 23, 2015

What causes people to marry, have children, or take on roommates? Both theory and evidence suggest that fiscal and monetary policy profoundly influence household formation and behavior. In fact, recent research suggests that households are alternatives to markets as institutions for organizing economic and other activity, that we form such partnerships when it is economically beneficial, and that this is strongly influenced by economic policy.

Randy Wright
Randy Wright, Ray Zemon Professor of Liquid Assets in the Department of Finance, Investment, and Banking at the UW-Madison Wisconsin School of Business.

Just as firms help entrepreneurs avoid the costs and inconveniences associated with markets, ameliorating search, taxation and other frictions, households, particularly families, can offer a cost-effective way to meet individuals’ needs. For example, entrepreneurs sometimes need legal or accounting services, which are available on the market for a price. When transaction costs are high, it can be worthwhile to bring those services in-house, by setting up a legal team or accounting department.
Likewise, many goods and services that individuals demand, including cooking, cleaning, childcare and even companionship, can be provided either by the market or within the household.
Logic suggests that if the market rate for services is high, individuals are more inclined to bring those services in-house (cooking at home, having one or both partners handle childcare, and cleaning one’s own home). This is especially relevant when market and home commodities are relatively good substitutes (family members are excellent cooks and meticulous cleaners and love being with children), and when the household works as a team to accomplish tasks. Therefore, when people find themselves in long-term situations in which market costs are high, they are more inclined to set up households and handle their own cooking, cleaning, and childcare.
It takes time and other resources to get a (good) job, but that is not so different from buying a house or finding a spouse. Since it is time consuming, rational individuals use reservation strategies: continue looking until one comes across an opportunity where forming a partnership outweighs the benefits of continued search, including the payoffs from being single plus the value of perhaps finding a better option. It is possible to characterize rigorously how these strategies depend on parameters.
There is evidence that single people are more likely to purchase items that can be obtained in the home or by the market (e.g., food). While these goods are not always purchased with cash, they are purchased that way more than home goods, which are not even traded, let alone traded for money, with exceptions like paying kids to do chores. Research confirms that singles indeed use cash more than married people, controlling for differences in age, income, employment, etc. Given that being single is cash intensive, inflation, like any other tax, makes the market less attractive and marriage more appealing. Indeed, research conducted by examining a sample of countries over many years to see if marriage rates are affected by fiscal and monetary policy (after controlling for other macro variables, like output growth and unemployment, as well as demographics) supports the idea that consumption and income taxes increase marriage and that inflation does, too.
Monetary and fiscal policy impact behavior within households, as well as markets, and they affect the formation of households in the first place. While the exact magnitudes of the effects are still under investigation, it is important to consider household economics when analyzing the effects of macro policy. Monetary policy, in particular, through its effect on inflation and hence household formation, can have long-lasting effects on the structure of society.
Read more about this topic in our research brief.