Exam 2 - Lesson 5

Suppose Prakash has an income today of ​$30,000​, an expected income in period 2 of ​$35,000​, and initial wealth of ​$10,000. Prakash faces an interest rate of 5​%. If Prakash has no money at the end of period 1 and is not borrowing from​ anyone, how much will he consume in period​ 2?

$35,000

What is the formula to find the y-intercept on an intertemporal budget line?

(1+r)(W+Y1) + Y2

What is the formula to find the x-intercept on an intertemporal budget line?

(W+Y1) + Y2/(1+r)

what is the slope of the intertemporal budget constraint?

- (1 + r)

The intertemporal budget constraint is based on the assumption that there are _______ periods of time -- how many?

2

If next​ period's income increases by ​$3,000 and the interest rate is 5​%, the intertemporal budget line will shift rightward by how much?

2,857.14

Suppose Prakash has an income today of ​$30,000​, an expected income in period 2 of ​$35,000​, and initial wealth of ​$10,000. Prakash faces an interest rate of 5​%. What is the horizontal intercept of Prakash's budget line? (round to nearest 2 decimal places if necessary)

73,333.33

Suppose Prakash has an income today of ​$30,000​, an expected income in period 2 of ​$35,000​, and initial wealth of ​$10,000. Prakash faces an interest rate of 5​%. What is the vertical intercept of Prakash's budget line? (round to nearest 2 decimal places if necessary)

77,000

According to the​ life-cycle hypothesis, individuals seek to smooth consumption over their __________ A. entire lifetime B. working life

A

Describe the effects of a decrease in the interest rate on present and next​ period's consumption if the individual is a net lender​ (i.e., has​ savings) after period 1 and the substitution effect is larger than the income effect. A. Consumption in period 1 will​ increase, while consumption in period 2 will decrease. B. Consumption will increase in both periods. C. Consumption will decrease in both periods. D. Consumption in period 1 will​ decrease, while consumption in period 2 will increase.

A

Even though the rebates did stimulate some consumption​ spending, the relatively small size of the increase coupled with the observed increase in the U.S. saving rate​ appears to _______ the permanent income hypothesis. A. affirm B. disprove

A

Even with unchanged​ incomes, individuals experiencing declines in wealth respond by _______. A. reducing consumption B. saving

A

Higher consumption and renewed growth is predicted by the​ life-cycle hypothesis if the asset price decline that shrunk wealth in 2007dash-2009 ​can, in the next few​ years, be ______. A. reversed B. forgotten

A

How would an increase in the real interest rate change current and future​ consumption? A. Future consumption would​ increase, but current consumption would decrease. B. Both current and future consumption would decrease. C. Current consumption would​ increase, but future consumption would decrease. D. Both current and future consumption would increase.

A

In May 2010 the size of​ Greece's budget deficit increased its probability of default and triggered a crisis across the Euro zone. To decrease the budget​ deficit, the Greek government proposed many measures. A few of them involved decreasing pension​ and/or benefits payments to retirees. Evaluate the impact of an unexpected decrease in your income after you retire according to the​ life-cycle hypothesis. A. Consumption decreases during the retirement years. B. Consumption remains the same as retirement plans are not subject to change. C. Consumption increases during the retirement years. D. Consumption will have an uncertain effect in income as this was an unplanned income change.

A

One way to test the accuracy of the permanent income hypothesis is to examine the effect of the tax rebates upon the saving rate. An increase in the saving rate following receipt of the rebates would suggest that taxpayers saw the income as​ transitory, meaning they viewed their lifetime resources as being __________ by the rebates. A. unchanged B. changed

A

The income received by American taxpayers in the 2nd quarter of 2008 in the form of​ one-time tax rebates was clearly _______ in nature A. Transitory B. Permanent

A

A rise in permanent income signifies greater lifetime resources and hence suggests that consumption will rise A. minimally B. significantly

B

According to the assumptions of the intertemporal​ model, an increase in income in either period or an increase in wealth would be most likely to A. decrease both current and future consumption. B. increase both current and future consumption. C. increase future but not current consumption. D. increase current but not future consumption. E. The answer cannot be determined from the information given.

B

According to the permanent income​ hypothesis, the income received by American taxpayers in the 2nd quarter of 2008 in the form of​ one-time tax rebates were ________ to impact consumption. A. likely B. unlikely

B

All of the following shift the intertemporal budget line ​(IBL​) except A. a change in period 2 income. B. a change in preferences about current and future consumption. C. a change in period 1 income. D. a change in wealth.

B

Describe the effect of an increase in next​ period's income on the intertemporal budget constraint. A. The intertemporal budget constraint will shift leftward. B. The intertemporal budget constraint will shift rightward. C. The intertemporal budget constraint will pivot counterclockwise through the​ "no borrowing-no lending​ point." D. The intertemporal budget constraint will pivot clockwise through the​ "no borrowing-no lending​ point."

B

During the 2007dash-2009 financial​ crisis, household wealth declined​ substantially, pushing down consumption and helping usher in the​ economy's most severe recession since World War ____. A. WWI B. WWII

B

How does Keynesian theory relate to intertemporal​ choice? A. Intertemporal choice assumes a single period while Keynesian theory assumes two periods. B. Keynesian theory assumes a single period while intertemporal choice assumes two periods. C. There is no relationship between the two models because they use different variables. D. The two theories are essentially the same because they use the same variables.

B

How would an increase in the real interest rate affect the intertemporal budget line​? A. The IBL would rotate counterclockwise through the​ "no borrowing or​ lending" point. B. The IBL would pivot clockwise through the​ "no borrowing or​ lending" point. C. The IBL would shift leftward. D. The IBL would shift rightward.

B

In the aggregate​ demand-aggregate supply ​(AD​/AS​) ​framework, when consumer confidence fallsfalls​, the result for the economy will be A. higher ​inflation, higher ​output, and lower unemployment. B. lower ​inflation, lower ​output, and higher unemployment. C. higher ​inflation, lower ​output, and higher unemployment. D. lower ​inflation, lower ​output, and an indeterminate change in unemployment.

B

The intertemporal budget constraint is based on the assumption that the consumer ______________ wish to leave money to anyone A. does B. does not

B

The permanent income hypothesis asserts that consumption is proportional to permanent​ income, the income expected to A. Never change B. Persist over many periods

B

The smoothing of consumption over the​ life-cycle is based upon the​ individual's lifetime resources​ which, at any point in​ time, are comprised of wealth and the product of work years remaining before retirement and​ one's annual ________. A. savings B. income

B

Which of the following best explains the permanent income​ hypothesis? A. Consumption is smoothed over the​ lifetime, with savings in earlier periods to finance spending during retirement. B. Consumption is based on expected lifetime​ income, and transitory changes have little effect. C. Consumption is based on a single​ period's income plus wealth and other factors. D. Consumption is based on optimization over two​ periods, given the interest​ rate, wealth, and income.

B

Why is a theory of consumption also a theory of​ saving? A. Because C​ = S−Y. B. Because S​ = Y−C. C. Because it is necessary to save in order to consume in the future. D. Because it is necessary to consume in order to save.

B

According to the random walk​ theory, A. changes in consumption are predictable because consumer expectations do not change over time. B. changes in consumption are unpredictable because changes in expectations are random. C. changes in consumption are unpredictable because changes in expectations occur due to unanticipated new information. D. changes in consumption are predictable because consumer expectations change predictably with new information.

C

A​ consumer's optimal choice of current and future consumption is found at the point where A. the intertemporal budget line intersects the highest possible indifference curve. B. the intertemporal budget line intersects the indifference curve at the horizontal axis. C. the intertemporal budget line is tangent to the highest possible indifference curve. D. the intertemporal budget line intersects the indifference curve at the vertical axis.

C

Suppose that Carmencita is a lender in period 1. What will be the effect on her consumption if the real interest rate​ rises, assuming that the substitution effect is greater than the income​ effect? A. Consumption will increase in both periods. B. Consumption in period 1 will increase and consumption in period 2 will decrease. C. Consumption in period 1 will decrease and consumption in period 2 will increase. D. Consumption will decrease in both periods.

C

The intertemporal budget constraint is based on the assumption that income and interest rates are ... A. determined by the consumer B. determined by the gov't C. given

C

Which of the following best explains the​ life-cycle hypothesis? A. Consumption is based on a single​ period's income plus wealth and other factors. B. Consumption is based on expected lifetime​ income, and transitory changes have little effect. C. Consumption is smoothed over the​ lifetime, with savings in earlier periods to finance spending during retirement. D. Consumption is based on optimization over two​ periods, given the interest​ rate, wealth, and income.

C

​Keynes's theory of consumption is based on the idea that A. consumption depends on exogenous factors. B. consumption depends on future saving. C. consumption depends on current income. D. consumption depends on interest rates.

C

According to behavioral​ economics, A. consumers place too little weight on current consumption because they fear unexpected events in the future. B. consumers balance present and future consumption according to how they behave. C. consumers cannot accurately weigh the benefits of current and future consumption because of expectations. D. consumers place too much weight on current consumption because they prefer instant gratification.

D

what does the horizontal axis of the intertemporal budget line measure?

consumption in period 1 (C1)

what does the vertical axis of the intertemporal budget line measure?

consumption in period 2 (C2)

According to the random walk hypothesis, if income decreases by less than the expected amount, what happens to current consumption?

increases

According to the random walk hypothesis, if income increases by the amount expected, what happens to current consumption?

stays the same

what does the slope of the intertemporal budget constraint represent?

the opportunity cost of consuming in period 1

The permanent income hypothesis and intertemporal choice both arrive at the same conclusion that consumption responds more to a rise in permanent income than it does to a rise in transitory income. Is this statement true or​ false?

true