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ECON10A_11 - Review 1 CIRCULAR FLOW DIAGRAM Market for...

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1/4/2008 1 Review
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1/4/2008 2 Market for Factors of Production Market for Finished Goods & Services HOUSEHOLDS FIRMS DEMAND (for Goods & Services) $ $ $ $ SUPPLY (of Factors of Prod) CIRCULAR FLOW DIAGRAM
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1/4/2008 3 The Labor-Leisure Decision Tangency Condition: At Le*, I* slope of indif curve = slope of budget line MRS Le, I = w Budget Condition Must be on budget line wL e * + I * = I 0 + 168w Demand for leisure determines HH’s Supply of labor L a I 168 L e I 0 I 0 + 168w L e * I *
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1/4/2008 4 Question 4: Who is Lazier?  A, B, or C=Can’t Tell A B ←La Le→ I ←La Le→ I
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1/4/2008 5 SUPPLY OF FACTORS OF  PRODUCTION Capital
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1/4/2008 6 Overview Firms need labor and capital Households supply these We have seen labor supply decision Supply of capital involves trade-off between consumption now and consumption later Deferred consumption allocates resources toward future production. This is “capital” HH’s Demand for future consumption determines HH’s Supply of capital U(c 1 , c 2 )
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1/4/2008 7 Question 1 You’ve just won the state lottery and will receive 20 annual payments of $70,000, with the first payment arriving 1 year from today. Interest rate, r=8% per year. If someone offered to buy your stream of winnings for a one-time payment of $1,000,000, would you sell? A. Yes B. No C. Can’t tell
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1/4/2008 8 Present Discounted Value Consumption in future is not as valuable as consumption today Interest rate r is one way to capture this $1→$(1+r) next period
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1/4/2008 9 Question 2 Your savings bond indicates the bank will pay you 3$ next period. Interest rate r=50%. How much is your bond worth to me today? (i.e., how much would I pay you for it today?) A. $4.50 B. $2 C. 1$ D. Can’t tell
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1/4/2008 10 Discounting Consumption in future is not as valuable as consumption today Interest rate r is one way to capture this $1 today→$(1+r) next period $1 next period→$1/(1+r) today
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1/4/2008 11 Definitions I 1 income in period 1 I 2
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