ECON 7520 SEMESTER 1, 2023

• This is an open book assessment item. No generative AI such as ChatGPT per- mitted.

• This is an individual assessment item — group work is not permitted.

• You have until 13.00h AEST on May 19, 2023 to 1) download and 2) work on the assessment item and to 3) upload your report.  You are required to upload your report as a single, legible pdf ile to the relevant TurnitIn folder. Please type your report with the possible exception of graphs.

• Please keep your pdf ile reasonably small (say ≤ 5MB).

• You may email your pdf ile to [email protected] as proof of your time of submission if you experience technical dificulties with uploading it. You then still have to upload the same pdf ile to TurnitIn as soon as possible.

• File formats other than pdf are not permitted. You may not submit multiple iles.

• Where an extension has not been approved, the following penalties apply to late or non-submission: A penalty of 10% of the maximum possible mark of the problem set will be deducted per day for up to 7 calendar days, at which point any submis- sion will not receive any marks unless an extension has been approved. Each 24 hour block is recorded from the time the submission is due.

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– my submission is entirely my own original work, and no part of my answers has been copied from any other source or person except where due acknowl- edgement is made,

– no part of the work has been previously submitted for assessment in this or any other institution,

– I have neither given nor received any unauthorized assistance on this assess- ment item, and

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In Lecture 5, we discussed the relation between iscal deicits and current account imbalances.  In our discussion, we assumed that the representative household has the utility function

ln(C1) + ln(C2).                                                 (1)

Consider now that the representative household is better modeled by a utility function of the form

ln(C1 + αG1) + ln(C2 + αG2),                                     (2)

where α ∈ [0, 1] is a parameter and G1 and G2 are government expenditures in period 1 and 2, respectively. The household takes government expenditures as exogenously given.

Write a report of up to approximately 1,000 words that answers the following questions.

(a) In the baseline model of Lecture 5, the Ricardian equivalence holds. Does the Ricar- dian equivalence continue to hold even if the representative household is modeled by a utility function of the form (2)?

(b) Consider that the government changes the timing of some government expenditures. In particular, assume that the government changes G1 by G1  = G  0 and G2 by G2  = −(1 + T1)G, where T1 denotes the interest rate on assets held between periods 1 and 2. For example, if G < 0 then the government effectively postpones some spending by one period.  Discuss how such a change in the government ex- penditure stream affects the consumption and current account balance. How does it affect your answer that (2) rather than (1) models the representative household?

In your report:

• Develop an appropriate model to answer above questions.

• Name a real-world country to which your model might apply. Explain in one sen- tence why your model is appropriate for the country.

• Derive the equilibrium of your model.

• Include appropriate mathematical equations.

• Provide economic intuition for your results.

• Consider including appropriate igure(s).

• Include a word count of your report (excluding equations, igures and references).