321_6 - amount of money you will have if you save it = $...

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ECON 321 Spring 2011: Lecture 6 Chapter 10: Intertemporal Choice Note: skipped 8 and 9
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Definitions (Chpt 10) Time period : a unit of time, could be a day, month, year, etc. Interest rate : r ~ a number that is usually less than 1 and bigger than zero. If I lend someone $ m at interest rate r, I receive: $(1+r)m, after 1 period $(1+r)(1+r)m = $(1+r) 2 m, after 2 periods $(1+r)…(1+r)m = $(1+r) t m, after t periods
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More Definitions (Chpt 10) Inflation : the increase in the price of consumption = an increase in the price level = devaluation of money Present value of a future monetary payoff = amount of money that if you lend it today would earn interest to equal the future payoff For example, if I promise you $M tomorrow, it is worth $M/(1+r) today More generally, a payoff of $M in t periods is worth $M/(1+r)t , today Future value of a current monetary payoff = the
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Unformatted text preview: amount of money you will have if you save it = $ M(1+r) Group Problem Your income today is $2,000. Next year your income will be $1,100. Your utility from consumption now and next year is: What is your optimal choice if the interest rate is 10%? What is your optimal choice if the interest rate is 20% 2 1 2 1 ) , ( c c c c u = Practice Problem You have $60 today and will earn $60 next period. You can borrow at a 200% rate of interest and you can lend/save at 0%. Graph your intertemporal budget set You have a chance to invest in a project to get $90 today and $45 next period. Should you? What if the project paid $45 today and $90 next period? Problem Your utility is: Interest is 21%, m 1 = 2000, m 2 =1100 Calculate optimal choice. } , min{ ) , ( 2 1 2 1 c c c c u =...
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321_6 - amount of money you will have if you save it = $...

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