Lifestyle habits and international transmission of business cycles

Our model reconciles with the data by closing the gap between cross-country correlations of consumption and output ('quantity anomaly'). The model predicts positive international correlations in investment and employment of the magnitude observed in the data ('international co-movement puzzle'). The key ingredient is the preference ordering that implies internal habit formation over the composite of consumption and leisure.

These lifestyle habits:

1. reduce wealth effect on labor supply, which helps explain co-movement of employment and output
2. reduce Edgeworth substitutability between consumption and leisure, which helps explain co-movement of consumption
3. discourage changes in consumption growth, which helps explain co-movement of investment.