handouttwexample - 1 A s i m p l e e x a m p l e Consider...

Info iconThis preview shows pages 1–2. Sign up to view the full content.

View Full Document Right Arrow Icon

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
This is the end of the preview. Sign up to access the rest of the document.

Unformatted text preview: 1 A s i m p l e e x a m p l e Consider the following 2 state case (i.e. S = 2) where y L < y H and consider an exponential utility function u ( c ) = e c . In that case the problem is written as P ( V ) = max { b H ,w H ,b L ,w L } H [ b H + P ( w H )] + L [ b L + P ( w L )] . (1) st. H h e ( y H + b H ) + w H i + L h e ( y L + b L ) + w L i V aut = V (2) e ( y H + b H ) + w H e ( y H + b L ) + w L (3) e ( y L + b L ) + w L e ( y L + b H ) + w H (4) where V aut = n H h e y H i + L h e y L io / (1 ) . Conjecture the value function P ( ) takes the following form P ( V ) = 1 1 { log( V A ) + K } (5) where A and K are constants to be determined and that the upward incen- tive compatibility constraint does not bind. Then verify these conjectures. The lagrangian is = n H b H + 1 { log( w H A ) + K } + L b L + 1 { log( w L A ) + K } o + n H h e ( y H + b H ) + w H i + L h e ( y L + b L )...
View Full Document

This note was uploaded on 08/06/2008 for the course ECON 387 taught by Professor Corbae during the Spring '07 term at University of Texas at Austin.

Page1 / 4

handouttwexample - 1 A s i m p l e e x a m p l e Consider...

This preview shows document pages 1 - 2. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online