Suppose a person's life is divided into two main blocks, periods 1 and 2. The consumer does not desire to perfectly smooth consumption over the two periods. In particular, preferences are such thatc2= 0.5c1. Income in the two periods is equal toy1= 500 andy2= 1000, and income taxes are proportional1= 50% and2= 50%. The real interest rate isr= 0%.

(a) What is the present value of lifetime resources (PVLR)? What is the highest feasible consumption in the current period? What is the highest feasible consumption in the future period?

(b) Find the optimal consumption in each period (c1,c2) and the amount of saving/borrowing. Comment on your findings.

(c) What happens to the consumption and saving choices if the real interest rate isr= 100% and there are no taxes (1=2= 0%)? Comment on your findings.