Consumption dynamics and the expectation channel in a Small Open Economy.

The transmission mechanism between consumption and its fundamentals has been under review in the literature from Friedman’s permanent income hypothesis to household’s liquidity constraints. One particular angle to explain consumption is focused on the role of consumer expectations as a determinant of consumption spending. Here we explore alternative measures for consumer expectations (captured by surveys to households) by taking into account general manager expectations and by using imports of durable consumption goods (which capture consumer confidence about future economic conditions). We argue that, for a small open economy, the expectations channel is well captured by alternative measures. We also find that even though there is a pass-through from expectations to consumption, this effect tends be short-lived. Moreover, we report those values and periods of time for which the alternative expectation measures have a significant impact on consumption.