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public_ps6_fall07

# public_ps6_fall07 - 1 PAM 204 PS#6#1(7 points Suppose that...

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PAM 204 PS #6 #1) (7 points) Suppose that there are only two time periods (working life and retirement). Suppose that Fred’s income during his working life is Y, and that Fred initially has a positive level of savings. Suppose that the tax on interest income is initially t and the retirement savings subsidy parameter is initially ρ 1 (all savings are subsidized). Suppose now that the government decreases the subsidy to retirement savings (retirement savings subsidy parameter now equals ρ 2 , all savings are still subsidized) and the income effect dominates the substitution effect. Will Fred save more or less? Demonstrate your answer with a diagram involving budget constraints (C R plotted against C W ) and indifference curves. In your diagram, give the values of the endpoints of your budget constraints and the slopes of your budget constraints. #2) (7 points) Suppose that there are only two time periods (working life and retirement). Suppose that Joe’s income during his working life is Y (>\$4000), and that Joe’s savings initially equal \$2000.

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