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Unformatted text preview: Economics 475 Part II Problem Set 5 1. Consider the model of two-sided lack of commitment with no aggregate risk discussed in class. Suppose that there are two possible realizations of person ones endowment ( y 1 ,y 2 ) and the endowment process is iid over time. Suppose that the first best allocation is not sustainable. Characterize the steady state distribution of continuation values v . Discuss to what extent the allocation displays amnesia regarding previous promised utilities. 2. In the model of two-sided lack of commitment, think of alternative environments with different variances of the endowment process. If the variance of the endowment process increases, is it always the case that the cross-sectional variance of consumption increases, or is the relationship ambiguous? Why or why not? 3. Consider a model of one-sided lack of commitment in which a committed money lender interacts with an uncommitted entrepreneur. Both agents are risk neutral and dis- count time at the interest rate...
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- Fall '07