Chartered Financial Analyst (CFA) Practice Exam Level 2

What is indicated by a higher utility of future consumption according to the Intertemporal Rate of Substitution theory?

1. Increased uncertainty about future economic conditions

2. A decreased rate of savings

3. A preference for current consumption

4. A consistent risk tolerance among investors

The correct answer is: Increased uncertainty about future economic conditions

The concept of utility in the context of Intertemporal Rate of Substitution theory relates to how individuals balance their consumption over time. When individuals express a higher utility for future consumption, it suggests that they value future consumption more than current consumption. This implies an increased willingness to defer gratification in favor of enjoying more significant benefits later on. A higher utility for future consumption may be motivated by a belief that future economic conditions will improve, enhancing the desirability of postponing consumption today in favor of potentially higher returns or newer opportunities later. This outlook often correlates with optimism about the economy, encouraging a preferential shift towards future consumption over present consumption. In this framework, a preference for current consumption suggests a lower utility for future benefits, which goes against the interpretation where future consumption is held in higher regard. Similarly, a decreased rate of savings would typically indicate a higher present consumption preference rather than an emphasis on future consumption. Consistent risk tolerance among investors doesn't directly relate to the utility of future consumption but might reflect varying preferences on risk in investment strategies. Thus, the interpretation of increased utility of future consumption aligns closely with positive expectations about future economic conditions, specified in the choice that indicates increased uncertainty about future economic prospects. This reflects the possibility of better opportunities that may