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Keywords:

  • Self-control;
  • preference for commitment;
  • consumption behavior;
  • time-inconsistency;
  • borrowing constraints;
  • risk premium;
  • sovereign debt

To study the behavior of agents who are susceptible to temptation in infinite horizon consumption problems under uncertainty, we define and characterize dynamic self-control (DSC) preferences. DSC preferences are recursive and separable. In economies with DSC agents, equilibria exist but may be inefficient; in such equilibria, steady state consumption is independent of initial endowments and increases in self-control. Increasing the preference for commitment while keeping self-control constant increases the equity premium. Removing nonbinding constraints changes equilibrium allocations and prices. Debt contracts can be sustained even if the only feasible punishment for default is the termination of the contract.