Gerald is a CEO in Brainies Consulting, Inc. His income in the first year is m1 = $200 and in the second m2 = $200. Assume that the interest rate is r = 100%. His time horizon is limited to these two years.

(a) Find PV and FV of Gerald’s income

(b) Show on the graph (C1; C2) Gerald’s budget set. Mark PV, FV, and the slope of his budget line.

(c) Explain what borrowing/lending strategy gives Gerald each of the two “extreme” consumption points. How much does he borrow/lend in the first period, how much does he pay back/receive in the second period?

(d) Suppose his utility function is:

U(C1; C2) = ln(C1) + ln(C2)

Find Gerard’s optimal choice analytically and show it on the graph. Does the optimal consumption involve saving or borrowing?

Answer rating: 100% (QA)

a To find the present value PV and future value FV of Geralds income we need to apply the interest rate PV m1 1 r m2 1 r2 200 1 1 200 1 12 200 2 200 4 ... View the full answer