Jennifer lives in two periods. In the first period, her income is fixed at $72,000; in the second, she is gets a 4% raise in her income. She can borrow and save at the market interest rate of 5 percent.
(A) Sketch her intertemporal budget constraint.
(B) Suppose that Jennifer is unable to lend at any rate of interest, although she can still borrow
at 5 percent. Sketch her new intertemporal budget constraint.
(A) Her income for the second year is 72,000 * 1.04 = $74,880.
If she borrows in Period 1 for the amount she will earn in Period 2, her total income is [72,000
+ (74,880/1.05)] = $143,314
If she lends in Period 1 for the amount she will earn in Period 1, her total income in period 2 is
[(72,000 * 1.05) + 74,880] = $150,480
Her intertemporal budget constraint is as follows:
(B) If she cannot lend at market rate, her Period 2 income is constant at $74,880. However,
she can borrow at 5 percent. Therefore her new intertemporal budget constraint is as follows:
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