Lecture%2012%20-%20Intertemporal%20Supply%20and%20Markets

Lecture%2012%20-%20Intertemporal%20Supply%20and%20Markets -...

Info iconThis preview shows pages 1–9. Sign up to view the full content.

View Full Document Right Arrow Icon
1 FIN 501 Financial Economics Session 12: Intertemporal Consumption II,  Professor Nolan Miller
Background image of page 1

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

View Full DocumentRight Arrow Icon
2 Announcements Problem Set #4 is due Thursday, October 7. Midterm exams … I’m happy to talk to you about the exam.  But: The suggested solution is online.  Please look at it first before you come see  me.  It is a useful exercise for you to try to figure out the questions rather  than have me explain them to you.
Background image of page 2
3 Road Map Last time: basic theory of consumption over time. Today: Catch up (MSF1/MSF2) on Consumption with income, Fisher’s  theorem. Separable Utility Hyperbolic Model Intertemporal Supply Stocks and Flows Demand for Capital There’s far more in today’s slides than we’re likely to cover.
Background image of page 3

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

View Full DocumentRight Arrow Icon
4 Consumption with income Key observation:  No matter  what the interest rate, the  consumer can always consume  his income each period. So, the intertemporal budget line  always goes through (m 0 ,m 1 ). Increasing r makes the budget  line (slope – (1+r)) steeper. Budget line, high r Budget line, low r C 0 C 1 m 0 m 1
Background image of page 4
5 Consumption with income Two cases to consider: Borrowing in period 0: C 0  > m 0 C 1  < m 1 Interest rate increase makes  consumer poorer. Saving in period 0: C 0  < m 0 C 1  > m 1 Interest rate increase makes  consumer richer. C 0 C 1 m 0 m 1 Saves in period 0 Borrows in  period 0
Background image of page 5

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

View Full DocumentRight Arrow Icon
6 Effect of an increase in r: borrower Consider a borrower at time 0. C 0 *  > m 0 . If r increases, cost of borrowing  increases. Subst effect reduces consumption. Because borrower becomes poorer,  inc. effect is also negative. C 0  must go down. C 0 C 1 m 0 m 1 C 0 * C 1 *
Background image of page 6
7 Effect of an increase in r: saver Consider a saver at time 0: C 0 * <m 0 . If r increases, consumer becomes  richer. Substitution effect leads to lower C 0 . But, since C 0  is normal, income  effect increases C 0 . Net effect is ambiguous. Here, r increases, and C 0  increases. C 0 C 1 m 0 m 1 C 0 * C 1 *
Background image of page 7

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

View Full DocumentRight Arrow Icon
Timing of income Suppose this consumer faces the choice between two income streams. 1. Go directly to the labor market, earn a moderate wage. 1. Go to school for one year, pay tuition and earn no wage, but then earn a high  wage thereafter. Question: Which should the consumer choose? Pre-Question: what factors should be important in the decision? Interest rate.
Background image of page 8
Image of page 9
This is the end of the preview. Sign up to access the rest of the document.

This note was uploaded on 01/18/2011 for the course FIN fin580 taught by Professor Miller during the Spring '10 term at University of Illinois, Urbana Champaign.

Page1 / 68

Lecture%2012%20-%20Intertemporal%20Supply%20and%20Markets -...

This preview shows document pages 1 - 9. Sign up to view the full document.

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