Mini Quiz 1

ISHISE, Hirokazu

Graduate Introductory Macroeconomics: Mini Quiz 1

Name:

Student ID:

Growth model with taxes

Consider that the representative households face consumption and labor income taxes:

max

{ct ,kt+1 ,xt ,lt }

t=0

t u(ct , lt )

(1)

t=0

s.t. (1 + c )ct + xt = (1 l )wt lt + rt kt + t

kt+1 = (1 )kt + xt
k0 is given.

(2)
(3)
(4)

max t
t = yt rt kt wt lt

(5)
(6)

yt = at kt lt1

(7)

The firms problem is

and the government faces the budget constraint,

gt = c ct + l wt lt .

(8)

Question 1 (2 points)
Derive the optimization conditions of the household problem by (1) setting-up a Lagrangian,
(2) deriving the first order conditions and the transversality condition.

Set-up a Lagrangian,
L=

t [u(ct , lt ) + t ((1 l )wt lt + (rt + 1 ) kt + t (1 + c )ct kt+1 )]

(9)

t=0

FOCs and TVC are

uct = (1 + c )t ,
ult = t (1 l )wt ,
t = t+1 (rt+1 + 1 ) ,
lim T T kT +1 = 0.

Graduate Introductory Macroeconomics

(10)
(11)
(12)
(13)

Summer 2014

Mini Quiz 1

ISHISE, Hirokazu

Question 2 (2 points)
Write down the labor supply condition and the Euler equation. (You do not need to show
derivations. Just write them down).

1 + c ult
,
1 l uct
uct = (rt+1 + 1 ) uct+1 .

wt =

(14)
(15)

Question 3 (2 points)
Define a competitive equilibrium.

Definition:
A competitive equilibrium of this economy is the quantities

{ct , lt , xt , yt , t , kt+1 }
t=0 and the prices {rt , wt }t=0 for given exogenous values {at , gt }t=0 ,
{c , l }, and k0 such that
(1): the HH maximizes the life-time utility subject to constraints, taking the price as
given,
(2): the firm maximizes the profits taking the prices as given,
(3): markets clear.

Question 4 (1 point)
Suppose that
u(ct , lt ) = ln ct + (1 ) ln(1 lt ),
at = a
.

(16)
(17)

Calculate the steady state values of r.

Under the utility function,
1
c1
t = (rt+1 + 1 ) ct+1 .

(18)

At the steady state, the Euler equation implies

r =

1
1 + .

Graduate Introductory Macroeconomics

(19)

Summer 2014

Mini Quiz 1

ISHISE, Hirokazu

Question 5 (3 points)
Discuss the eects of changes in parameters on the steady state value of r:
on r
on r
c on r
State increasing or decreasing, and give intuitions.

on r: increasing. To attract saving despite high depriciation, the rent becomes

higher.
on r: decreasing. Because people are more patient, the return to saving becomes
lower.
c on r: no eects. Time-invariant consumption tax is not changing the saving
behavior.

Graduate Introductory Macroeconomics

Summer 2014