Suppose there is asymmetric information. Among the 100 consumers in this economy, 10% are bad guys...

 

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Suppose there is asymmetric information. Among the 100 consumers in this economy, 10% are bad guys in that they will not repay their debts if they borrow. Banks only know the percentage but do not know who are the bad ones. Let the deposit rate be ri = 5%. (a) (3 points) What's the lending rate r2 that a competitive lender will charge? (b) (3 points) Suppose the government can borrow and save with interest rate 5%. Does the Ricardian Equivalence Theorem hold in this case? If so, briefly explain why. If not, specify a tax policy under which the government can improve some consumer's welfare. Briefly explain or show with a diagram. (c) (4 points) Suppose the government can only borrow with the lending rate r2. Does the Ricardian Equivalence Theorem hold in this case? If so, briefly explain why. If not, specify a tax policy under which the government can improve some consumer's welfare. Briefly explain or show with a diagram. Suppose there is asymmetric information. Among the 100 consumers in this economy, 10% are bad guys in that they will not repay their debts if they borrow. Banks only know the percentage but do not know who are the bad ones. Let the deposit rate be ri = 5%. (a) (3 points) What's the lending rate r2 that a competitive lender will charge? (b) (3 points) Suppose the government can borrow and save with interest rate 5%. Does the Ricardian Equivalence Theorem hold in this case? If so, briefly explain why. If not, specify a tax policy under which the government can improve some consumer's welfare. Briefly explain or show with a diagram. (c) (4 points) Suppose the government can only borrow with the lending rate r2. Does the Ricardian Equivalence Theorem hold in this case? If so, briefly explain why. If not, specify a tax policy under which the government can improve some consumer's welfare. Briefly explain or show with a diagram.

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Quiz a In this economy there is asymmetric information Banks only know the percentage of badguys in the population but they do not know who is bad and ... View the full answer