22 Questions
What property is displayed by the total expected utility function E(U) = Ut + θE(Ut+1)?
Additive
What does the individual maximize to choose Ct and stochastic Ct+1 optimally?
Total Utility
What constraint is used for substitution in solving the individual's choice optimization problem?
(Xt-Ct)(1+Rt+1)+Xt+1 = Ct+1
What is the slope of the Utility function U(C) in terms of marginal utility?
Positive and decreasing
In the individual's choice problem, what financial asset has a stochastic return Rt+1 that needs to be considered?
Single financial asset
What does risk aversion imply for individuals in terms of consumption smoothing?
Individuals want to decrease the volatility of consumption.
What determines an asset's average return (price) in the Consumption-Based Capital Asset Pricing Model?
The degree to which the asset provides consumption smoothing.
In the Consumption-Based Capital Asset Pricing Model, what is U'(Ct) where Ct represents consumption at time t?
Rate of return for the individual at time t
What does the parameter θ represent in the context of individual's subjective rate of time preference?
Indifference point between saving and consuming today
Which factor does the risk of an asset depend on in the Consumption-Based Capital Asset Pricing Model?
Stochastic interaction between asset return and consumption
How is an individual's inter-temporal utility described in the Consumption-Based Capital Asset Pricing Model?
It is additive and separable.
What does Equation (4) imply about the price of the asset?
The price of the asset is determined by the expected present value of future consumption.
How is the behaviour of the Stochastic Discount Factor (SDF) primarily influenced?
By future labour income.
For large values of labour income, how does the SDF typically behave?
The SDF is low.
In Figure 1, what does the probability distribution represent?
Probability distribution of Ct+1.
What does the result in Figure 2 depend on?
U’(C)>0, U’’(C)
What does the equation (2) reveal about the relationship between Ct and Ct+1?
Ct depends on the value of Ct+1
What is the Stochastic Discount Factor (SDF) according to the text?
Ratio of present value of marginal utilities of (optimal) consumption at t and (optimal stochastic) consumption t+1
What does equation (3) in the text suggest about the stochastic return Rt+1?
Rt+1 should satisfy a specific valuation equation
What is the main purpose of interpreting equation (3) as a pricing equation in the text?
To establish a connection between financial assets and present consumption
What does the optimising expression (equation 2) imply about the relationship between present and future consumption according to the text?
The expected utility of future consumption equals the present value of utility today
In terms of pricing, what does the ratio (1+R)=Ф/P represent in the context provided?
The relationship between financial asset payoff and asset price
Test your understanding of the derivation and relationships involved in the maximization decision problem equation. Questions cover differentiation, relationships between variables, and rearrangement of terms.
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