Anthony has an income of $10,000 this year, and he expects an income of $5,000 next year. He can borrow and lend money at an interest rate of 10%.
Consumption goods cost $1 per unit this year and there is no inﬂation.
a. What is the present value of his endowment?
b. What is the future value of his endowment?
c. Write an equation to represent his budget set. Graph his budget set? Label it well.
d. If his utility function is U(c1, c2)=4ln(c1)+2ln(c2) , how much will he consume in each period?
e. How would his utility change if the interest rate goes up to 15%? Is he better off or worse off? Explain.
f. What about if there is a 10% inflation? Show how his budget constraint and his utility changes with a graph. A simple illustration is fine.
g.Graph his budget constraint and find his optimum bundle if the interest rate to borrow is 15% but return to his savings is 10% with no inflation.
h. Discuss the importance of financial markets and how they can improve our utility.
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