Question
Problem 2 (8 points) Assume that a consumer smooths her consumption over time; the interest rate is zero (r=0). The consumer lives for 5
Problem 2 (8 points) Assume that a consumer smooths her consumption over time; the interest rate is zero (r=0). The consumer lives for 5 periods; and in each period her income is as follows: Y1=10; Y2=40; Y3=50; Y4=50; Y5=0. Referring to a life-cycle hypothesis: a) Calculate consumption and savings in each period, assuming there are NO liquidity constraints (2 p). b) Calculate consumption and savings in each period, assuming there ARE liquidity constraints (2p) c) Go back to b). The liquidity constraints still hold and additionally, in period 4 income increases to 80 (Y4=80) which is an UNexpected change (before period 4, the consumer does not know about this increase). Calculate consumption and saving in each period (2p) d) Go back to a) Assume now the consumer's life becomes longer and she will live for 6 periods and in 6th period her income is zero (Y6=0) and all remaining income is unchanged. How will this change affect consumer's savings in periods 1 to 5 will they increase, decrease or stay the same? Please explain, but calculations are not necessary (2p)
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