Reference no: EM133040876

1. Suppose that a household in a two-period model has income of $30,000 in period 1 and $25,000 in period 2, and the interest rate is 75 percent. Assume that the price of the good is $1 in both periods. Suppose that the household decides to consume 26,000 in period 1 and 32,000 in period 2. Now suppose that the interest rate falls to 50 percent, and the household decides not to borrow or lend at all. Is the household better off or worse off with the higher interest rate?

2. Suppose that an economy consists of 100 households, 50 of which have no income in period 1 and income of $50,000 in period 2 and 50 of which have income of $40,000 in period 1 and no income in period 2. Assume that the price of the good is $1 in both periods. Suppose that each household decides that its consumption in period 1 will equal one-half the present value of its income from both periods. Find the equilibrium value of the interest rate. How much does each household save in period 1 and consume in each period?

3. An economy has 75 households, all of which have incomes of $25,000 each in period 1, 50 of which have incomes of $40,000 each in period 2, and 25 of which have incomes of $20,000 each in period 2. Assume that the price of the good is $1 in both periods. Suppose that each household decides that its consumption in period 1 will equal 50 percent of the present value of its income from both periods.

a. Find the equilibrium value of the interest rate.

b. Now suppose instead that each household will consume 60 percent of the present value of its income from both periods in period 1. Now what is the equilibrium value of the interest rate?

c. Finally, suppose that each household's period 1 consumption equals one-half the present value of its income from both periods, but everyone's income in period 1 is lower: just $20,000. What is the equilibrium value of the interest rate now?