Question 3 Walkthrough

Question 1

All 3 budget constraint equations

Answer 1

Current c + s= y -t

Future c’ = y’ - t’ +(1+r)s

Lifetime = c + c’/1+r = y + y’/1+R -t -t’/1+r

Question 2

When do you know to use the lending or borrowing rate

Answer 2

When s>0 this is the lending rate because it is not borrowing because they are holding money.

When s<0 this is the borrowing rate as they need to pay back interest on what they owe

Question 3

Question layout

Answer 3

Write out all constraints
Calculate difference in C and C’ to determine rate along with desired outcome
Write which rate
Substitute preference in budget constraint