Credit market imperfection due to asymmetric information

Assignment Help Business Economics

Reference no: EM13817071

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 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 = Goe = 0, and each consumer is asked to pay a lump-sum tax of t in the current period and toe in the future period. The government also cannot distinguish between good and bad borrowers, but as with banks 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.

(b) Suppose that the government decreases t and increases toe in such a way that the government budget constraint holds. Does this have any effect on each consumer’s decisions about how much to consume in each period and how much to save? Show with the aid of diagrams.

Reference no: EM13817071

Questions Cloud

Determine the collateral constraint for the consumer : Suppose that there is limited commitment in the credit market, but lenders are uncertain about the value of collateral. Each consumer has a quantity of collateral H, but from the point of view of lender, there is a probability a that the collateral w..

How does it differ from the sustaining innovation : Explain what the disruptive innovation is in the selected industry. Explain why you feel it is a disruptive innovation. How does it differ from the sustaining innovation

Internal and external assessment methods : Several internal and external assessment methods were discussed within this unit. Based on the reading, identify and discuss three internal assessment methods that you feel are most effective and three that you feel are least effective.

Evaluate the business-level strategy of victory motorcycles : Evaluate the business-level strategy of Victory Motorcycles to determine whether you believe the strategy is appropriate to offset forces in the industry.

Credit market imperfection due to asymmetric information : 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 th..

Introduce the human services principles : Introduce the human services principles for each of the following:

How your companys activities will affect the environment : Describe the ways in which your company is committed to being a good corporate citizen.Discuss how your company's activities will affect the environment and identify the steps you will take to mitigate any negative impacts.Determine any health issues..

Fundamental problem with financial statements : What you think is the fundamental problem with financial statements based upon the historic cost measurement principle used under US GAAP ?

Impacts of a borderless society : Impacts of a Borderless Society

User Account

All Pages