Maurice Tutor

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    Argosy University/ Phoniex University/
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Category > Management Posted 17 Jan 2018 My Price 8.00

Time-inconsistent preferences

Time-inconsistent preferences. Consider an individual who lives for three periods. In period 1, his or her objective function is ln c1 + δln c2 + δln c3, where 0 < δ="">< 1.="" in="" period="" 2,="" it="" is="" ln="">2 + δln c3. (Since the individual’s period3 choice problem is trivial, the period-3 objective function is irrelevant.) The individual has wealth of W and faces a real interest rate of zero.

 

(a) Find the values of c1, c2, and c3 under the following assumptions about how they are determined:

 

(i) Commitment: The individual chooses c1, c2, and c3 in period 1.

 

(ii) No commitment, naivete: The individual chooses c1 in period 1 to maximize the period-1 objective function, thinking he or she will also choose c2 to maximize this objective function. In fact, however, the individual chooses c2 to maximize the period-2 objective function.

 

(iii) No commitment, sophistication: The individual chooses c1 in period 1 to maximize the period-1 objective function, realizing that he or she will choose c2 in period 2 to maximize the period-2 objective function.

 

(b) (i) Use your answers to parts (a)(i) and (a)(ii) to explain in what sense the individuals’ preferences are time-inconsistent.

 

(ii) Explain intuitively why sophistication does not produce different behavior than naivete.

 

 

 


Answers

Maurice Tutor
(5)
Status NEW Posted 17 Jan 2018 04:01 PM My Price 8.00

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