Ch 6 Intertemporal Consumption

Then it must be would the agent switch to being a

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Unformatted text preview: the gap between If an agent is borrowing at and is smaller. then it must be: Would the agent switch to being a saver if the real interest rate increased or decreased? No. In fact, if an agent is a borrower she will always be a borrower no matter how high or low the real interest rate. However, changes in would have an impact on the amount borrowed. Look at: ⏟ ⏞ ( [( ) ) {⏞ [( } ) That is, if an agent is borrowing at then as increases, she will borrow less (that is her negative savings increase). This is the same result we had as an agent with Cobb-Douglas preferences who borrows less as . Will borrowings fall at an increasing, decreasing, or constant rate? For this we evaluate: 27 ECO 204 Chapter 6: Inter-temporal Consumption (this version 2012-2013) University of Toronto, Department of Economics (STG). ECO 204, S. Ajaz Hussain. Do not distribute. {⏞ ⏞ [( That is, as } ) borrowing (negative) savings decrease at an decreasing rate. Now, if an agent with complements preferences is borrowing at then we have seen that as she will borrow less at . If you borrow less today, then when you get old, what happens to the size of the loan that you have to pay back? It turns out that even though you are borrowing a smaller principal amount, the higher real interest rate “amplifies” your loan so that the loan payment is bigger! This is easy to see in this picture: even though you borrow less at you have to pay back more in : E 0 1 ( ) ( Notice how the gap between and ) is larger even though the gap between and is smaller. 28 ECO 204 Chapter 6: Inter-temporal Consumption (this version 2012-2013)...
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This note was uploaded on 03/20/2014 for the course ECON 204 taught by Professor Ajazhussain during the Fall '09 term at University of Toronto.

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