Question 1

Which of the following statements is NOT true?

Accepted Answer

The decision to attend college should not be based solely on the NPV calculation. While it is an important factor to consider, there are other non-monetary benefits and costs that should also be taken into account.

Question 2

As the stock of a depletable resource falls, its user cost

Accepted Answer

According to the Hotelling's rule, as the stock of a depletable resource falls, the user cost or the cost of extracting the resource increases. This is because as the resource becomes scarcer, it becomes more costly for users to extract it. Therefore, the correct answer is A, which states that the user cost rises.

Question 3

From the Hotelling rule, we would expect that a perfectly competitive industry selling an exhaustible resource would

Accepted Answer

The Hotelling rule suggests that in a perfectly competitive market, sellers of an exhaustible resource would aim to maximize their profits over time, leading to a faster rate of extraction and sale compared to a monopolist, who would restrict supply to increase prices and maximize profits over a longer period.

Question 4

Relative to a perfectly competitive market for an exhaustible resource, the monopolist charges a ________ price and uses the resource more ________.

Accepted Answer

A monopolist has the ability to set prices higher than the competitive market price, as they have control over the supply of the resource. In the case of an exhaustible resource, the monopolist would have an incentive to use the resource more slowly in order to maximize profit in the long run, as the resource gets scarcer over time. Therefore, the monopolist would charge a higher price and use the resource more slowly relative to a competitive market.

Question 5

Suppose you plan to retire in eight years, but your boss would like you to earn an online MBA in order to take on a new managerial position. The firm will continue to pay your salary while you are working through the online courses, and the new position pays an additional $15,000 per year. The online MBA tuition is $35,000 per year, and your discount rate is 5%. Should you complete the degree?

Accepted Answer

We need to calculate the Net Present Value (NPV) of completing the online MBA in order to decide whether to pursue it or not.

First, let's calculate the additional earnings from the new managerial position over the remaining 8 years of the employee's career:

Additional earnings per year = $15,000
Number of years until retirement = 8
Total additional earnings = $15,000 x 8 = $120,000

Now, let's calculate the total cost of the degree program:

Annual tuition = $35,000
Number of years to complete = 2 (assuming a typical MBA program length)
Total tuition cost = $35,000 x 2 = $70,000

Using a discount rate of 5%, we can calculate the NPV of the additional earnings and the tuition cost:

NPV of additional earnings = $120,000 / (1+0.05)^8 = $81,483.52
NPV of tuition cost = -$70,000

NPV of completing the degree = NPV of additional earnings - NPV of tuition cost
= $81,483.52 - $70,000
= $11,483.52

Since the NPV is positive, the employee should pursue the degree as it would result in a positive benefit overall.

Question 6

Assume that you own an exhaustible resource that is sold competitively. The price of the resource is: P_{t + 1} - C = 1.08(P_t - C), where t = 0 at the beginning of 2005, P = price in dollars per ton, and C = marginal cost of extraction (fixed over time). It is also known that the demand for the resource is: Q = 1,000,000 - 25,000 P, where Q represents output in tons per year. If the beginning of 2005 price is $30 per ton and the marginal cost of extraction is $10 per ton, what will the price be at the end of 2009? What is the user cost of production in 2009? Is it different from the user cost for 2005? Explain. How much of the resource will be extracted in 2009? What is the market rate of interest on money? Explain.

Accepted Answer

The answer of Assume that you own an exhaustible resource...

Question 7

What is the "Hotelling rule" for situations in which a producer can determine when a good is sold?

Accepted Answer

The Hotelling rule states that in situations where a producer can determine when a good is sold, the price minus marginal cost must rise at exactly the rate of interest in order to maximize profits. This ensures that the producer earns enough to cover the opportunity cost of waiting to sell the good at a later time. Option A is incorrect because it only considers the price, not the difference between price and marginal cost. Option B is incorrect because it assumes that the marginal cost must rise, which may not be the case. Option D is incorrect because it assumes that the price and marginal cost must rise together, which may not necessarily be true. Option E is also incorrect since the rate of interest plays a crucial role in determining optimal pricing strategy when the sale of the good is postponed to a later time.

Question 8

Suppose new oil reserves are discovered that were not previously known. What happens to the user cost of oil?

Accepted Answer

The discovery of new oil reserves means that there is more supply available in the market, which tends to reduce the price of oil. As a result, the user cost of oil will decrease.

Question 9

The authors note that an appropriate discount rate for most U.S. households is near 5%. However, suppose you are considering the decision to attend graduate school, and you already have large credit card balances from your undergraduate years. If you decide to use a higher discount rate (e.g., 10%) to reflect your higher opportunity cost of money, what impact does this change in the discount rate have on the net present value of a graduate degree?

Accepted Answer

Using a higher discount rate will decrease the net present value of a graduate degree. This is because the higher discount rate reflects a higher opportunity cost of money, which in turn means that the future cash flows (i.e., higher future earnings from having a graduate degree) are worth less in present value terms.

Question 10

Scenario 15.7:
Consider the following information:
You move to northern California and buy a winery that already holds a stock of some wine in barrels. You are deciding whether to sell the wine now, or keep it until next year. The current price of wine is $20 per bottle, and it costs $2 per bottle to get the wine from barrels to bottles.
-Based on the information in Scenario 15.7. You should

Accepted Answer

The answer of Scenario 15.7:
Consider the following information:
You move to...

Question 11

What is the "Hotelling rule" for a monopolist?

Accepted Answer

The answer of What is the "Hotelling rule" for a...

Question 12

According to the economics of exhaustible resources, if the interest rate increases,

Accepted Answer

As per the Hotelling's rule, the price of an exhaustible resource will increase at the same rate as the interest rate. This implies that the higher the interest rate, the higher the cost of extracting the resource. As a result, firms will try to extract as much of the resource as possible before the price increases further. Therefore, increasing the interest rate will lead to the faster depletion of an exhaustible resource.

Question 13

You are the owner of a rare bottle of wine valued at $332. There are no costs associated with storing or selling the wine. Next year you expect the wine to increase in value to $350. If the interest rate is 10 percent

Accepted Answer

The present value of $350 next year at a 10% interest rate is $318.18, which is less than the current value of $332, so selling today is better.

Question 14

Scenario 15.7:
Consider the following information:
You move to northern California and buy a winery that already holds a stock of some wine in barrels. You are deciding whether to sell the wine now, or keep it until next year. The current price of wine is $20 per bottle, and it costs $2 per bottle to get the wine from barrels to bottles.
-Based on the information in Scenario 15.7, if you expect the price to be $21 next year, you should

Accepted Answer

To decide whether to keep the wine until next year, we need to compare the present value of selling the wine now ($18 per bottle after accounting for the $2 cost to bottle the wine) to the present value of selling the wine next year ($19 per bottle after accounting for the $2 cost and factoring in the expected price increase). The present value of future cash flows can be calculated using the present value formula: PV = FV / (1 + r)^n, where PV is the present value, FV is the future value, r is the discount rate (i.e. interest rate), and n is the number of periods.

If interest rates are below 5%, the present value of selling the wine next year will be higher than the present value of selling it now, because the expected price increase of $1 per bottle is worth more in present value terms when discounted at a lower interest rate. Therefore, it is best to keep the wine if interest rates are below 5%. If interest rates are above 5%, the present value of selling the wine now will be higher than the present value of selling it next year, because the higher discount rate will make the current cash flow more valuable than the future cash flow.

Question 15

The authors claim that monopolists will tend to practice stronger conservation of depletable resources than would occur under a perfectly competitive market structure. Why is this true?

Accepted Answer

Monopolists tend to generate lower output levels, which means they deplete resources at a slower rate than under perfect competition. This is because monopolists have greater control over prices and can charge higher prices for the resource, which in turn reduces demand and consumption. Therefore, monopolists have a greater incentive to conserve the resource since it is a key input for their production process and they may also benefit from preserving the resource for future profits.

Question 16

Over the long term, the ultimate determinant of the price of a depletable resource is the

Accepted Answer

The answer of Over the long term, the ultimate determinant...

Question 17

Suppose that many consumers tend to over-state the discount rate that should be used for computing the net present value of education, just as they do when making investments in durable goods like cars and appliances. What would happen if consumers (as a group) started to use lower discount rates when making decisions about their education?

Accepted Answer

If consumers started to use lower discount rates (i.e., valuing future benefits more highly), the net present value of education would increase. This would encourage more people to pursue education, leading to an increase in demand for education. Therefore, the best choice is D.

Question 18

The authors cite a recent study of MBA programs that compares pre-MBA salaries with post-MBA salaries. For some of the highest ranked schools, the salary difference was roughly $100,000 per year, and the difference was roughly $60,000 for some schools ranked near the bottom of the top 20. Is it possible that the financial returns from an MBA earned at a lower ranked school may actually exceed the returns from a top ranked school?

Accepted Answer

The net present value of an MBA degree is determined by the difference between the present value of the increased earnings and the cost of tuition and lost earnings during the MBA program. Therefore, if the tuition and opportunity cost of attending a lower ranked school is lower than that of a top-ranked school, the net present value of the degree may actually be higher, despite a potentially lower post-MBA salary compared to graduates of top-ranked schools.

Question 19

The user cost of an exhaustible resource is

Accepted Answer

The user cost of an exhaustible resource is the opportunity cost of using the resource today rather than saving it for the future. This means that if the resource is used today, the potential future benefits of using the resource are lost. Therefore, the user cost is related to the decision of whether to use the resource today or save it for future use. It is not necessarily the same as the resource's price or production cost, and it is not directly related to the amount of the resource that exists or is extracted today.

Question 20

Why does the NPV of a college education tend to be positive but relatively small?

Accepted Answer

The answer of Why does the NPV of a college...

Quiz 15: Investment, Time, and Capital Markets