Question
Suppose that Scott and Anton both live for three periods denoted by t = 0, 1, 2. In period zero, both Scott and Anton need
Suppose that Scott and Anton both live for three periods denoted by t = 0, 1, 2. In period zero, both Scott and Anton need to decide whether or not to attend university for themselves. If one does not attend university, the earnings in the three periods would be w0 = w1 = w2 = 10, where wt is the no-university earnings in period t = 0, 1, 2. If one attends university, the earnings in the three periods would be s0 = 0, s1 = 20 and s2 = 40, where st is the college-graduate earnings in period t = 0, 1, 2. There are two options to finance the tuition and living costs of attending university. Option A is to pay all the costs as they happen in period 0. Under this option, the cost in period zero is C = 3 but there will be no future costs. Option B is to take a student loan and repay 10% of wages in period 1 and period 2. The student loan would cover the cost in period 0 so no cost needs be paid in period 0. Scott has a discount factor M = 0.8 and Anton has a discount factor F = 1. (a) Suppose Anton does not have the money to pay the tuition and living costs in period 0 so Option A is not available to him. Would Anton attend university under Option B? Show your reasoning and related calculation. (10 marks) (b) Would Scott attend university in period 0? If so, which financing option would Scott choose? If not, why? Show your reasoning and related calculation. (10 marks)
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