L10 Intertemporal Choice. Abstract Model (apples and oranges) Applications: 1. Labor Supply (Labor-Leisure Choice) 2. Intertemporal Choice (Consumption-Savings.

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Presentation transcript:

L10 Intertemporal Choice

Abstract Model (apples and oranges) Applications: 1. Labor Supply (Labor-Leisure Choice) 2. Intertemporal Choice (Consumption-Savings Choice) 3. Uncertainty (Insurance) (Consumption across states of the world) Three Applications

Intertemporal Choice u Two periods: Today and Tomorrow u Goods: consumtion today and tomorrow u Endowment: income today and income tomorrow u Possibility of borrowing and lending u New: Savings,PV and FV

Intertemporal Budget Constraint

Present Value (PV) and Future Value (FV) u V: Future equivalent of today’s $1 u PV: Today’s equivalent of tomorrows $1 u What is PV and FV of cashflow u Example

Comparing two cashflows

Budget constraint (2 versions) u FV of spending = FV of income u PV of spending = PV of income u Prices and income

Translation:

Intertermporal Choice u Discount rate u Discount factor u Optimal Choice

Magic Formulas

Borrower, Lender? Savings

Consumption Smoothing u Life Cycle

Consumption Tilting

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