# ps3 - Economics 202A Problem Set 3 Maurice Obstfeld 1 OG...

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Economics 202A, Problem Set 3 Maurice Obstfeld 1. OG Model for the Open Economy. Consider the overlapping genera- tions model with the following twists: population is constant, the path of output f y y t ;y o t g is exogenous with y o t & 0 , the country may borrow r; and U c y t ;c o t +1 ± = log c y t + log c o t +1 : (a) If taxes on the young (old) are ± y t ( ± o t ) , calculate the consumption functions of the young and the old. (b) What is the intertemporal budget constraint of the government. (c) Assume that initially government debt and taxes are zero. Now a gift of d= 2 in government bonds to the date-0 young and the same gift to the date-0 old. These bonds begin to pay interest (at rate r ) on date 1. Taxes on date 0 population do not change, but taxes on everyone rise by rd= 2 from t = 1 onward. Show that this policy is consistent with the government±s intertemporal budget constraint. (d) d ) on aggregate consumption for every date t = 0 ; 1 ; 2 ; 3 ; etc. (e) What is the e/ect on long-run aggregate consumption? This e/ect cannot be due to the crowding out of capital, because there is no capital. Explain intuitively what has happened. 2. Barro versus Feldstein. In a critique of Barro±s famous paper "Are Government Bonds Net Wealth?" Martin Feldstein ( JPE , April 1976) argued that government debt may be net wealth in a growing economy. His case went as follows: Suppose the government gives an amount

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ps3 - Economics 202A Problem Set 3 Maurice Obstfeld 1 OG...

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