Consumption and Certainty

In this chapter we study intertemporal consumption choices under conditions of certainty. We begin with a two-period model in which an individual chooses between current and future consumption, given the intertemporal budget constraint. The saving decision becomes consumption in the next period, then investment and future production. We explain the meaning of the optimal condition, known as the Euler equation, and consider the role of the interest rate in consumption decisions. Next, we extend the model to multiple periods, up to an infinite-time horizon. We introduce liquidity constraints to show how market imperfections affect consumption choices. Finally, the properties of discrete-time models are compared with those of continuous-time models.