Chapter 6: Liquidity Constraints
The assumption that individuals have access to a perfect capital market in the sense that they may borrow (or save) as much as they want at the prevailing rate of interest is now relaxed. Instead, we assume that credits for household expenditures are rationed. Without the possibility of borrowing as much as they want, individuals will have diﬃculties optimizing investments and consumption over the life cycle. Some investments – even greatly proﬁtable ones – will be cancelled or at least postponed because of a lack of ﬁnancing, and the consumption path will not be as smooth as utility maximization prescribes. For obvious reasons, lower middle-aged individuals in particular are hurt by credit rationing. A life cycle model including liquidity constraints is described in the ﬁrst section. We then go on to look at some measures that are used to compensate especially the lower middle-aged for a lack of credit possibilities. Some aspects of family policy are discussed in the second section, and educational ﬁnance is taken up in the third section. MANDATORY PENSIONS AND LIQUIDITY CONSTRAINTS In this section we use simulations to illustrate the role played by mandatory pensions and liquidity constraints in a life cycle model. We are interested in how aggregate saving, among other things, is inﬂuenced by the size of mandatory pensions and liquidity constraints. An essential feature of the model presented below is that individuals are uncertain of the time of their death. This has two important implications. First, one’s life expectancy will change...
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