Chapter 15, Investment, Time, and Capital Markets Video Solutions, Microeconomics

Problem 1

Suppose the interest rate is 10 percent. If $\$ 100$ is invested at this rate today, how much will it be worth after one year? After two years? After five years? What is the value today of $\$ 100$ paid one year from now? Paid two years from now? Paid five years from now?

Vipender Yadav

Numerade Educator

01:17

Problem 2

You are offered the choice of two payment streams: (a) $\$ 150$ paid one year from now and $\$ 150$ paid two years from now; (b) $\$ 130$ paid one year from now and $\$ 160$ paid two years from now. Which payment stream would you prefer if the interest rate is 5 percent? If it is 15 percent?

Amrita Bhasin

Numerade Educator

01:42

Problem 3

Suppose the interest rate is 10 percent. What is the value of a coupon bond that pays $\$ 80$ per year for each of the next five years and then makes a principal repayment of $\$ 1000$ in the sixth year? Repeat for an interest rate of 15 percent.

Nick Johnson

Numerade Educator

02:36

Problem 4

A bond has two years to mature. It makes a coupon payment of $\$ 100$ after one year and both a coupon payment of $\$ 100$ and a principal repayment of $\$ 1000$ after two years. The bond is selling for $\$ 966 .$ What is its effective yield?

Andrew Davis

Numerade Educator

02:00

Problem 5

Equation (15.5) (page 568 ) shows the net present value of an investment in an electric motor factory. Half of the $\$ 10$ million cost is paid initially and the other half after a year. The factory is expected to lose money during its first two years of operation. If the discount rate is 4 percent, what is the NPV? Is the investment worthwhile?

Prahith Chakka

Numerade Educator

07:13

Problem 6

The market interest rate is 5 percent and is expected to stay at that level. Consumers can borrow and lend all they want at this rate. Explain your choice in each of the following situations:
a. Would you prefer a $\$ 500$ gift today or a $\$ 540$ gift next year?
b. Would you prefer a $\$ 100$ gift now or a $\$ 500$ loan without interest for four years?
c. Would you prefer a $\$ 350$ rebate on an $\$ 8000$ car or one year of financing for the full price of the car at 0 percent interest?
d. You have just won a million-dollar lottery and will receive $\$ 50,000$ a year for the next 20 years. How much is this worth to you today?
e. You win the "honest million" jackpot. You can have \$1 million today or $\$ 60,000$ per year for eternity right that can be passed on to your heirs). Which do you prefer?
f. In the past, adult children had to pay taxes on gifts of over $\$ 10,000$ from their parents, but parents could make interest-free loans to their children. Why did some people call this policy unfair? To whom were the rules unfair?

Jesse Neumann

Numerade Educator

01:12

Problem 7

Ralph is trying to decide whether to go to graduate school. If he spends two years in graduate school, paying $\$ 15,000$ tuition each year, he will get a job that will pay $\$ 60,000$ per year for the rest of his working life. If he does not go to school, he will go into the workforce immediately. He will then make $\$ 30,000$ per year for the next three years, $\$ 45,000$ for the following three years, and $\$ 60,000$ per year every year after that. If the interest rate is 10 percent, is graduate school a good financial investment?

Mitchell Cutler

Numerade Educator

03:44

Problem 8

Suppose your uncle gave you an oil well like the one described in Section 15.8. (Marginal production cost is constant at $\$ 50 .$ ) The price of oil is currently $\$ 80$ but is controlled by a cartel that accounts for a large fraction of total production. Should you produce and sell all your oil now or wait to produce? Explain your answer.

Anand Jangid

Numerade Educator

03:22

Problem 9

You are planning to invest in fine wine. Each case costs $\$ 100,$ and you know from experience that the value of a case of wine held for $t$ years is $100 t^{1 / 2}$. One hundred cases of wine are available for sale, and the interest rate is 10 percent.
a. How many cases should you buy, how long should you wait to sell them, and how much money will you receive at the time of their sale?
b. Suppose that at the time of purchase, someone offers you $\$ 130$ per case immediately. Should you take the offer?
c. How would your answers change if the interest rate were only 5 percent?

Amit Srivastava

Numerade Educator

01:32

Problem 10

Reexamine the capital investment decision in the disposable diaper industry (Example 15.4 ) from the point of view of an incumbent firm. If $\mathrm{P\&G}$ or Kimberly-Clark were to expand capacity by building three new plants, they would not need to spend $\$ 60$ million on $\mathrm{R} \& \mathrm{D}$ before start-up. How does this advantage affect the NPV calculations in Table 15.5 (page 573 )? Is the investment profitable at a discount rate of 12 percent?

Breanna Ollech

Numerade Educator

01:26

Problem 11

Suppose you can buy a new Toyota Corolla for $\$ 20,000$ and sell it for $\$ 12,000$ after six years. Alternatively, you can lease the car for $\$ 300$ per month for three years and return it at the end of the three years. For simplification, assume that lease payments are made yearly instead of monthly- $i . e .,$ that they are $\$ 3600$ per year for each of three years.
a. If the interest rate, $r,$ is 4 percent, is it better to lease or buy the car?
b. Which is better if the interest rate is 12 percent?
c. At what interest rate would you be indifferent between buying and leasing the car?

Carson Merrill

Numerade Educator

01:33

Problem 12

A consumer faces the following decision: She can buy a computer for $\$ 1000$ and $\$ 10$ per month for Internet access for three years, or she can receive a $\$ 400$ rebate on the computer (so that its cost is $\$ 600$ ) but agree to pay $\$ 25$ per month for three years for Internet access. For simplification, assume that the consumer pays the access fees yearly (i.e., $\$ 10$ per month $=\$ 120$ per year).
a. What should the consumer do if the interest rate is
3 percent?
b. What if the interest rate is 17 percent?
c. At what interest rate will the consumer be indifferent between the two options?

Carson Merrill

Numerade Educator