Consider a consumer who earns incomey each month. She has to spendc each month on essential goods, such as food and shelter. She has no access to reliable savings, so she must spend her entire income each month. The consumer is interested in taking a loan to finance a large purchase. The cost of capital for banks is fixed atkeach month and the monthly interest rate charged to borrowers isr. Bothkandr are equal to one plus the interest rate as we are used to seeing it - e.g., ifa loan charges 5% monthly interest, thenr= 1.05.

Q. 1. What is the largest nonessential purchase that the consumer can make each month without borrowing? Express it as a function ofyandc

Q.2. Under the zero profit condition for lenders (i.e. banks), what will the interest rater

charged to borrowers be? Assume there is no risk of default and no fixed costs and express it as a function ofk,y andc.