Not only has American society become more unequal over the last four decades, but the culture has also dispensed with traditional social norms that emphasize moderation and thrift. For those that are relatively better off than their neighbors, modern norms now make it acceptable to publicly display the trappings of wealth and status. One way to undertake these displays of wealth and status is through the conspicuous consumption of goods like luxury cars. These goods can even help the relatively well-off gain access to valuable social networks in their neighborhoods and local communities.
However, as shown in the newly published paper “Signaling Status: The Impact of Relative Income on Household Consumption and Financial Decisions” (Jesse Bricker, Jacob Krimmel and Rodney Ramcharan, Management Science, 2021), there can be a dark side to signaling status. Households can incur sizeable debts, especially high interest credit card debt, to purchase visible consumption goods like luxury cars to convey information about their social status.
In the study, the authors use internal micro data from the Survey of Consumer Finances that identify the census tract or neighborhood in which each survey participant lives. Neighborhoods are important. The neighborhood is where most repeat social interactions occur. And signaling status in a neighborhood setting can yield significant positive psychological and social benefits. For example, in cultures that value competition and success, like modern America, people perceived to be “economic winners” can enjoy high status within their community.
The authors show that households’ income relative to that of their neighborhood peers significantly determine these households’ credit card debt. That is, because the value of being seen as successful is large, households that are relatively better off than their neighbors resort to high interest credit card debt in order to convey information about their relative success to their neighbors. Controlling for a household’s absolute income level itself, as well as a range of other individual and neighborhood factors, the authors find that a one standard deviation increase in a household’s income rank—computed relative to its census tract neighbors—is associated with a 0.38 standard deviation increase in the log of credit card balances. Evaluated at the mean credit card balance in the sample, this increase in rank suggests a $3,254 increase in credit card balances. Unfortunately, these balances are not immediately paid off. So in their apparent quest to signal status relative to their neighbors, these individuals are also more likely to go bankrupt, or get stuck with higher debt service costs in the long run.
Cars are the canonical status good, and the authors show that relative income has a large significant effect on car consumption along a number of dimensions. A one standard deviation increase in income rank is associated with a 17 percent increase in the value of a household’s most expensive car. A similar increase in rank is also associated with a 3.4 percentage point rise in the probability of owning a status car, such as a BMW or Mercedes-Benz; a 16.4 percent rise in the average value of all cars; and a 15.2 percent drop in the age of the household’s youngest car.
This household level evidence suggests that the demand for high status cars should be higher in areas with a greater dispersion in incomes. In contrast, in areas where incomes are known to be more homogenous, communicating information about status is likely to be less important in the decision to buy a car, reducing the demand for high status cars. In keeping with this prediction, the authors find a large positive association between county level income inequality and the fraction of high status cars sold. They also find higher levels of consumer leverage in more unequal counties.
These results suggest that as American society becomes more unequal and norms that favor modesty and thrift fade, households might increasingly invest in status consumption goods to signal their relative income position compared to their close neighbors. But this growing emphasis on conspicuous consumption can reduce savings rates, increase household debt and even bankruptcy.
Read full article at: https://doi.org/10.1287/mnsc.2019.3577.
Reference:
Bricker B, Krimmel J, and Ramcharan R (2020). Signaling Status: The Impact of Relative Income on Household Consumption and Financial Decisions. Management Science.
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