Y6

Consider a consumer who lives two periods and for who current and future consumption are normal goods. The interest rate is f. a) Suppose that the interest rate increases to r'. How would the consumer's budget constraint change? How current and future consumption will change due to the substitution effect? b) If the consumer was saving before the change, how the income effect changes current and future consumption after the change in interest rate? You can draw the scenario to help you answer the question, but you must also use economic reasoning. c) Repeat b) assuming now the consumer was borrowing before the change.Consider three lotteries. In Lottery 1 you can earn $600 with 3% chance and () otherwise. With Lottery 2 you can earn $100 with 18% probability and 0 otherwise. With Lottery 3 you can earn $36 with 50% chance and 0 otherwise. a) Compute the EMV of each lottery. Which one would a risk neutral person choose? b) Suppose the person is risk averse. Draw the lotteries and the expected utility that person would derive from each of them in the space wealth-utility. Which one would the risk averse person take? Why