Math Solutions

(Step-by-Step) Now assume that a = 1 and so r 1 = r 2 as in question 1. But in order to borrow, Kate must provide some collateral. Kate has a good friend, Joe

Question: Now assume that a = 1 and so r 1 = r 2 as in question 1. But in order to borrow, Kate must provide some collateral. Kate has a good friend, Joe who owns a car. Joe writes a letter to the bank saying that if Kate defaults on her loan, Joe would sell his car to pay off Kate’s debt. The bank accepts Joe’s car as a collateral.

  1. Joe’s car is worth 15. The bank allows Kate to borrow a maximum of \(\frac{15}{1+r}\). Explain why.
  2. Calculate the optimal consumption of Kate. Compare with question 1.b. Illustrate your answers in a diagram
  3. Imagine the government cuts taxes today by \(\Delta t\) but increases future taxes by \(\Delta t\left( 1+r \right)\) to satisfy his intertemporal budget constraint. What is the impact on Kate’s consumption? Illustrate your answer in a diagram.

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Solution: The downloadable solution consists of 3 pages
Deliverable: Word Document


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