Suppose that there is a credit market imperfection due to asymmetric information. In the economy, a fraction b of consumers consists of lenders, who each receive an endowment of y units of the consumption good in the current period and 0 units in the future period. A fraction (1-b)a of consumers are good borrowers who each receive an endowment of 0 units in the current period and y units in the future period. Finally, a fraction (1-bX1-a) of consumers are bad borrowers who receive 0 units of endowment in the current and future periods. Banks cannot distinguish between good and bad borrowers. The government sets G=G=0, and each consumer is asked to pay a lump-sum tax of t in the current period and t' in the future period. The government also cannot distinguish between good and bad borrowers but can observe endowments. a. Write down the government's budget constraint, making sure to take account of who is able to pay their taxes and who does not. The government's budget constraint in this scenario is OA G G 1+r OB. OC. OD. =Nt+ Gr 1+r Gr G+T+r b. Suppose that the government decreases t and increases t' in such a way that the government budget constraint holds. Does this have any effect on each consumer's decision about how much to consume in each period and how much to save? Because of the presence of a credit market imperfection due to asymmetric information, the real interest rate for borrowers, r. must include a default premium. Therefore, the real interest rate for borrowers is equal to =N[b+(1-b)a]t+ N[b+ (1-b)ajt 1+r OC. G' G+ ==t+ OD. N[b+(1-blat 1+r N[(1-b1-a)t 1+r OA.=r+(1-b)(1-a). OB.a(1+r)-1. =t+-- 1+r 5=22²²-1. N[(1-b)(1-a)t 1+r The consumer experiences different interest rates for borrowing and lending. Therefore, a decrease in t and an increase in t' in such a way that the government budget constraint holds results in which of the following? (Select all that apply.) A. Borrowers maintaining the same level of current and future consumption, and increasing their savings B. Lenders maintaining the same level of current consumption, future consumption, and savings
Suppose that there is a credit market imperfection due to asymmetric information. In the economy, a fraction b of consumers consists of lenders, who each receive an endowment of y units of the consumption good in the current period and 0 units in the future period. A fraction (1-b)a of consumers are good borrowers who each receive an endowment of 0 units in the current period and y units in the future period. Finally, a fraction (1-bX1-a) of consumers are bad borrowers who receive 0 units of endowment in the current and future periods. Banks cannot distinguish between good and bad borrowers. The government sets G=G=0, and each consumer is asked to pay a lump-sum tax of t in the current period and t' in the future period. The government also cannot distinguish between good and bad borrowers but can observe endowments. a. Write down the government's budget constraint, making sure to take account of who is able to pay their taxes and who does not. The government's budget constraint in this scenario is OA G G 1+r OB. OC. OD. =Nt+ Gr 1+r Gr G+T+r b. Suppose that the government decreases t and increases t' in such a way that the government budget constraint holds. Does this have any effect on each consumer's decision about how much to consume in each period and how much to save? Because of the presence of a credit market imperfection due to asymmetric information, the real interest rate for borrowers, r. must include a default premium. Therefore, the real interest rate for borrowers is equal to =N[b+(1-b)a]t+ N[b+ (1-b)ajt 1+r OC. G' G+ ==t+ OD. N[b+(1-blat 1+r N[(1-b1-a)t 1+r OA.=r+(1-b)(1-a). OB.a(1+r)-1. =t+-- 1+r 5=22²²-1. N[(1-b)(1-a)t 1+r The consumer experiences different interest rates for borrowing and lending. Therefore, a decrease in t and an increase in t' in such a way that the government budget constraint holds results in which of the following? (Select all that apply.) A. Borrowers maintaining the same level of current and future consumption, and increasing their savings B. Lenders maintaining the same level of current consumption, future consumption, and savings
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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![Suppose that there is a credit market imperfection due to asymmetric information. In the economy, a fraction b of consumers consists of lenders, who each receive an endowment of y units of the consumption good in the current period and 0 units in the future period. A fraction (1-b)a of
consumers are good borrowers who each receive an endowment of 0 units in the current period and y units in the future period. Finally, a fraction (1-b)(1-a) of consumers are bad borrowers who receive 0 units of endowment in the current and future periods. Banks cannot distinguish
between good and bad borrowers. The government sets G=G' = 0, and each consumer is asked to pay a lump-sum tax of t in the current period and t' in the future period. The government also cannot distinguish between good and bad borrowers but can observe endowments.
a. Write down the government's budget constraint, making sure to take account of who is able to pay their taxes and who does not.
The government's budget constraint in this scenario is
OA.
О в.
OC.
OD.
G'
1+r
G'
1+r
G'
1+r
G'
G+ =N[b+ (1-b)a]t+
1+r
O C.
G+-
OD.
G+
G+
= Nt+
=t+
1+r
b a
=t+
b. Suppose that the government decreases t and increases t' in such a way that the government budget constraint holds. Does this have any effect on each consumer's decision about how much to consume in each period and how much to save?
Because of the presence of a credit market imperfection due to asymmetric information, the real interest rate for borrowers, , must include a default premium. Therefore, the real interest rate for borrowers is equal to
OA.=r+(1-b)(1-a).
B. ra(1+r)-1.
N[b+ (1-b)a]t'
1+r
N[(1 - b)(1-a)]t'
1+r
-1.
t'
1+r
-1.
N[(1-b)(1-a)]t
1+r
N[b+ (1-b)a]t'
1+r
b= b
The consumer experiences different interest rates for borrowing and lending. Therefore, a decrease in t and an increase in t' in such a way that the government budget constraint holds results in which of the following? (Select all that apply.)
A. Borrowers maintaining the same level of current and future consumption, and increasing their savings
B. Lenders maintaining the same level of current consumption, future consumption, and savings
C. Lenders increasing their current consumption, decreasing their future consumption, and maintaining the same level of savings
D. Borrowers maintaining the same level of current consumption, future consumption, and savings
E. Lenders maintaining the same level of current and future consumption, and increasing their savings
F. Borrowers increasing their current consumption, decreasing their future consumption, and maintaining the same level of savings](/v2/_next/image?url=https%3A%2F%2Fcontent.bartleby.com%2Fqna-images%2Fquestion%2F83b8cc5e-2894-42ca-96a1-c7cd33e01baa%2Fea08d116-5f8c-45af-8f4e-d3deb5c6151b%2Fsmmal4m_processed.png&w=3840&q=75)
Transcribed Image Text:Suppose that there is a credit market imperfection due to asymmetric information. In the economy, a fraction b of consumers consists of lenders, who each receive an endowment of y units of the consumption good in the current period and 0 units in the future period. A fraction (1-b)a of
consumers are good borrowers who each receive an endowment of 0 units in the current period and y units in the future period. Finally, a fraction (1-b)(1-a) of consumers are bad borrowers who receive 0 units of endowment in the current and future periods. Banks cannot distinguish
between good and bad borrowers. The government sets G=G' = 0, and each consumer is asked to pay a lump-sum tax of t in the current period and t' in the future period. The government also cannot distinguish between good and bad borrowers but can observe endowments.
a. Write down the government's budget constraint, making sure to take account of who is able to pay their taxes and who does not.
The government's budget constraint in this scenario is
OA.
О в.
OC.
OD.
G'
1+r
G'
1+r
G'
1+r
G'
G+ =N[b+ (1-b)a]t+
1+r
O C.
G+-
OD.
G+
G+
= Nt+
=t+
1+r
b a
=t+
b. Suppose that the government decreases t and increases t' in such a way that the government budget constraint holds. Does this have any effect on each consumer's decision about how much to consume in each period and how much to save?
Because of the presence of a credit market imperfection due to asymmetric information, the real interest rate for borrowers, , must include a default premium. Therefore, the real interest rate for borrowers is equal to
OA.=r+(1-b)(1-a).
B. ra(1+r)-1.
N[b+ (1-b)a]t'
1+r
N[(1 - b)(1-a)]t'
1+r
-1.
t'
1+r
-1.
N[(1-b)(1-a)]t
1+r
N[b+ (1-b)a]t'
1+r
b= b
The consumer experiences different interest rates for borrowing and lending. Therefore, a decrease in t and an increase in t' in such a way that the government budget constraint holds results in which of the following? (Select all that apply.)
A. Borrowers maintaining the same level of current and future consumption, and increasing their savings
B. Lenders maintaining the same level of current consumption, future consumption, and savings
C. Lenders increasing their current consumption, decreasing their future consumption, and maintaining the same level of savings
D. Borrowers maintaining the same level of current consumption, future consumption, and savings
E. Lenders maintaining the same level of current and future consumption, and increasing their savings
F. Borrowers increasing their current consumption, decreasing their future consumption, and maintaining the same level of savings
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