# Quiz 14: Investment, Time, and Insurance

Business

Q 1Q 1

A corporate bond has a $10,000 face value and offers a 7% coupon rate. The bond matures at the end of three years. If the interest rate is 5%, the present discounted value of the bond is $____.
A) 10,000
B) 10,544.65
C) 9,523.81
D) 10,526.69

Free

Multiple Choice

B

Q 2Q 2

Daiyu's parents have decided to save for her college education. They estimate they will need $100,000 18 years from now to pay for it. If the interest rate remains fixed at 5% over this period, how much money will Daiyu's parents have to put into savings today to meet their goal (assuming no more money is saved over the years)?
A) $5,555.56
B) $95,238.10
C) $41,552.07
D) $5,291.05

Free

Multiple Choice

C

Q 3Q 3

A firm is considering an investment project that today would cost $20,000. At the end of one year, there is a 70% probability that the investment will pay out $28,000 and a 30% probability that it will pay out $16,000. Using a 10% interest rate, what is the expected net present value of this investment?
A) -$670.85
B) $483.14
C) $2,181.82
D) $4,020.19

Free

Multiple Choice

C

Q 4Q 4

The market for capital is in equilibrium at an interest rate of 3% and a quantity of $10 million. Suppose that households become more frugal and decide to spend less and save more. This would cause the equilibrium interest rate to ____ and the equilibrium quantity of capital to ____.
A) increase; increase
B) increase; decrease
C) decrease; increase
D) decrease; decrease

Free

Multiple Choice

Q 5Q 5

Assume a future payment of $10,000. If r = 0.2 and T = 5, then the present value of $10,000 is $____.
A) 2,000
B) 9,900
C) 9,057.31
D) 4,018.78

Free

Multiple Choice

Q 6Q 6

The market for capital is in equilibrium at an interest rate of 3% and a quantity of $10 million. Suppose that businesses become more optimistic about future demand and start to invest heavily in capital. This would cause the equilibrium interest rate to ____ and the equilibrium quantity of capital to ____.
A) increase; increase
B) increase; decrease
C) decrease; increase
D) decrease; decrease

Free

Multiple Choice

Q 7Q 7

(Table: Account Balance) Using an interest rate of 10%, the value of the savings account balance in year 10 is $____.
A) 3,855.43
B) 11,000
C) 20,000
D) 25,937.42

Free

Multiple Choice

Q 8Q 8

(Figure: Utility and Income) Suppose that Sara has an income of $80,000 but if her business burns down, her income drops to $20,000. The probability that Sara's business will burn down is ____%.
A) 66.67
B) 33.33
C) 50
D) 20

Free

Multiple Choice

Q 9Q 9

A change in household tastes and preferences reduces the rate of saving. The market interest rate _____, and the quantity of capital _____.
A) increases; increases
B) increases; decreases
C) decreases; decreases
D) decreases; increases

Free

Multiple Choice

Q 10Q 10

Suppose that a bond with a $1,000 face value matures in one year and pays a 10% coupon rate. It is selling for $1,025. What interest rate would make a person indifferent between the selling price of $1,025 and the bond payment (face value and coupon) one year from now?
A) 9.8%
B) 7.3%
C) 11.1%
D) 10.2%

Free

Multiple Choice

Q 11Q 11

Liqin fixes up old cars and sells them to supplement his retirement income. Liqin came across a beat-up 1955 Corvette that she is considering rebuilding and selling. She estimates a 0.2 probability that she will gain 15% on the deal, a 0.2 probability that she will gain 10%, and a 0.6 probability that she will gain 5%. Liqin's expected return for fixing up and selling the Corvette is ____%.
A) 8
B) 11
C) 20
D) 30

Free

Multiple Choice

Q 12Q 12

(Table: Utility Function II) Suppose the person's utility function is given by U = I

^{0.5}, where I is income. What guaranteed income level would offer the same expected utility level as that from the uncertain income (i.e., find the certainty equivalent)? A) $432,600 B) $464,400 C) $448,900 D) $457,000Free

Multiple Choice

Q 13Q 13

If principal is invested at a constant interest rate, the value of the account will increase:
A) at an increasing rate over time.
B) at a constant rate over time.
C) at a decreasing rate over time.
D) at a linear rate over time.

Free

Multiple Choice

Q 14Q 14

(Table: Car Costs) The table shows the initial cost outlays of two versions of the Ford Escape and their estimated annual fuel costs. Stu is not sure whether he wants the hybrid or standard model. Although more expensive, the hybrid model has better gas mileage and would save $890 of gas per year. Assume both cars are worthless after six years. At a 7% interest rate, what should Stu do?
A) Buy the hybrid since the net present value of the total cost for the hybrid is less than the standard.
B) Buy the standard since the net present value of the total cost for the standard is less than the hybrid.
C) Buy the standard model since the net present value of the total cost for the standard is more than the hybrid.
D) Buy either model since the net present value of the cost difference between the hybrid and the standard model is zero.

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Multiple Choice

Q 15Q 15

A corporate bond has a $10,000 face value and offers a 7% coupon rate. The bond matures at the end of three years. If the interest rate is 7%, the present discounted value of the bond is $____.
A) 10,000
B) 9,345.79
C) 9,300
D) 10,752.69

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Multiple Choice

Q 16Q 16

(Figure: Total Utility I) The risk premium is:
A) $24,160.
B) $9,100.
C) $45,000.
D) $35,900.

Free

Multiple Choice

Q 17Q 17

(Table: Investments I) The table depicts the costs and benefits of an investment. Which of the following statements is (are) TRUE? I. If the interest rate is 8%, the investment is worthwhile.
II) If the interest rate is 6%, the investment's net present value is $79.26.
III) If the interest rate is 4%, the investment is worthwhile.
A) II and III
B) I, II, and III
C) II
D) III

Free

Multiple Choice

Q 18Q 18

(Table: Investments III) What is the payback period of the investment?
A) five years
B) four years
C) three years
D) It depends on the interest rate.

Free

Multiple Choice

Q 19Q 19

(Table: Payback Period) If management uses the net present value method and requires a two-year period to reach the payback period, then management will ____ the investment because the total benefits over the first two years are ____.
A) approve; less than $5,000
B) not approve; less than $5,000
C) approve; greater than $5,000
D) not approve; greater than $5,000

Free

Multiple Choice

Q 20Q 20

Tom is considering an investment that gives a $400 payout in one year and a $600 payout in two years. If interest rates are 6%, the maximum price that Tom should pay for this investment is $____.
A) 869.53
B) 911.36
C) 943.40
D) 1,000

Free

Multiple Choice

Q 21Q 21

Assume a future payment of $10,000. If r = 0.2 and T = 1, then the present value of $10,000 is $____.
A) 10,000.00
B) 9,803.92
C) 8,333.33
D) 9,980

Free

Multiple Choice

Q 22Q 22

Sam is considering the purchase of a vending machine to sell sodas. The cost of the vending machine is $3,400. Sam estimates that the vending machine will last for five years and will provide net income of $800 each year for its lifetime. Suppose the seller of the vending machine allows Sam to defer, without penalty or interest, payment for the vending machine until the end of the first year. The net present value at 7% is $____.
A) -119.84
B) 102.58
C) 3,738.32
D) 109.77

Free

Multiple Choice

Q 23Q 23

(Table: Total Utility II) Because Qingling is _____ risk averse than Huian, Huian will pay the _____ risk premium.
A) more; larger
B) less; larger
C) less; smaller
D) more; smaller

Free

Multiple Choice

Q 24Q 24

Let π = inflation rate, r = real interest rate, and i = nominal interest rate. Which of the following statements is (are) TRUE?
A) π = (r)(i)
B) π = i + r
C) r = i - π
D) i = r - π

Free

Multiple Choice

Q 25Q 25

Using the Rule of 72, how many years does it take for an account balance to double at an 8% interest rate?
A) 10
B) 9
C) 8
D) 7

Free

Multiple Choice

Q 26Q 26

Sam is considering the purchase of a vending machine to sell sodas. The cost of the vending machine is $3,400. Sam estimates that the vending machine will last for five years and will provide net income of $800 each year for its lifetime. If Sam pays $3,400 for the vending machine today, the net present value at 7% is $____.
A) -119.84
B) 119.84
C) 3,738.32
D) 109.77

Free

Multiple Choice

Q 27Q 27

(Table: Taxi Fleet) Metro Cab is considering replacement of its fleet of old taxicabs. To replace its fleet, Metro must spend $150,000 on new taxicabs. The new taxis will incur $5,000 of maintenance expenses per year. Alternatively, Metro could spend $20,000 today to refurbish its taxicabs and incur an additional $20,000 per year of maintenance expenses for the next three years. Metro would then have to buy new taxicabs for $150,000 at the end of three years, leading to lower maintenance expenses of $5,000 per year. Using an interest rate of 20%, the net present value of the first three years is $____.
A) 65,000
B) 32,000
C) 20,000
D) -34,509

Free

Multiple Choice

Q 28Q 28

Jerome operates a car repair shop and is considering whether to purchase a computer diagnostic tool for Korean automobiles. The tool, which costs $4,000, will enable Jerome to service Korean automobiles. This added business will give Jerome additional income of $2,000 in each of the next three years. The net present value of the tool at 5.5% is $____.
A) 1,395.87
B) 5,395.87
C) 5,687.20
D) 1,692.64

Free

Multiple Choice

Q 29Q 29

Suppose that a firm generates $40,000 of profit per year, and this profit will continue forever. At a 10% interest rate, what is the present discounted value of the firm's profit?
A) $400,000
B) $4 million
C) $4.4 million
D) $360,000

Free

Multiple Choice

Q 30Q 30

In the market for capital, the discovery of new productive technologies increases the profitability of investments. The market interest rate _____, and the quantity of capital _____.
A) increases; increases
B) increases; decreases
C) decrease; decreases
D) decreases; increases

Free

Multiple Choice

Q 31Q 31

Sam is considering the purchase of a vending machine to sell sodas. The cost of the vending machine is $3,400. Sam estimates that the vending machine will last for five years and will provide net income of $800 each year for its lifetime. If Sam pays $3,400 for the vending machine today, the net present value at 5% is $____.
A) 63.58
B) 409.52
C) 3,463.58
D) 53.34

Free

Multiple Choice

Q 32Q 32

The demand and supply of capital are given by Q

^{D}= 50 - 8r and Q^{S}= 4r - 10, where Q is the quantity of capital in millions of dollars and r is the interest rate measured as a percentage. What is the equilibrium quantity of capital? A) $5 million B) $60 million C) $10 million D) $12 millionFree

Multiple Choice

Q 33Q 33

Benny was seriously injured at his place of employment and can no longer work. If Benny hadn't been injured, he would have worked five more years and would have earned $60,000 each year. The present discounted value of Benny's lost earnings at a 5% interest rate is $____.
A) 60,000
B) 259,768.60
C) 285,714.13
D) 300,000

Free

Multiple Choice

Q 34Q 34

Suppose that a bond with a face value of $10,000 and coupon rate of 7% matures a year from now. It is selling for $9,880. What interest rate would make a person indifferent between the selling price of $9,880 and the bond payment (face value and coupon) one year from now?
A) 7%
B) 5.7%
C) 1.3%
D) 8.3%

Free

Multiple Choice

Q 35Q 35

(Table Cash Flows I) At a 7% annual interest rate, what is the present discounted value of the cash flows?
A) $1,688.08
B) $1,324.86
C) $1,275.33
D) $1,109.70

Free

Multiple Choice

Q 36Q 36

The present discounted value of $500 received annually until the end of time at a 15% interest rate is $____.
A) 434.78
B) 500
C) 3,333.33
D) 7,500

Free

Multiple Choice

Q 37Q 37

The demand for capital is Q

^{D}= 80 - 15r and the supply of capital is Q^{S}= 20r - 60, where r is the interest rate and Q is the quantity of capital in millions of dollars. Businesses become more optimistic about the business environment and borrow $70 million more capital at each interest rate level. The equilibrium quantity of capital as a result of this newfound optimism is ____. A) 40 B) 20 C) 50 D) 60Free

Multiple Choice

Q 38Q 38

Jiayi would like to save for a car that will cost her $20,000 in five years. If the current interest rate is 6% per month, how much will she need to set aside, assuming monthly compounding (assume Jiayi does not add any more money after today)?
A) $18,867.92
B) $314.47
C) $606.29
D) $333.33

Free

Multiple Choice

Q 39Q 39

What interest rate would make a person indifferent between receiving $1,250 today and $1,500 at the end of one year?
A) 16.7%
B) 12.5%
C) 24%
D) 20%

Free

Multiple Choice

Q 40Q 40

(Table: Payback Period) The payback period on this investment is ____ years.
A) one
B) two
C) three
D) four

Free

Multiple Choice

Q 41Q 41

The demand for capital is Q

^{D}= 80 - 15r and the supply of capital is Q^{S}= 20r - 60, where r is the interest rate and Q is the quantity of capital in millions of dollars. Businesses become more optimistic about the business environment and borrow $70 million more capital at each interest rate level. The equilibrium interest rate as a result of this newfound optimism is r = ____. A) 4 B) 3 C) 5 D) 6Free

Multiple Choice

Q 42Q 42

Todd, who just started college, is promised $10,000 by his grandmother at the end of four years if he graduates with honors. What is the present discounted value of this payment at a 6% interest rate?
A) $9,400.68
B) $8,180.26
C) $6,000.32
D) $7,920.94

Free

Multiple Choice

Q 43Q 43

The Rule of 72 states that it will take _____ years for a savings account to double at a 9% annual interest rate.
A) 8
B) 9
C) 6.5
D) 6.1

Free

Multiple Choice

Q 44Q 44

There is an 80% probability that Hong will be in good health during the year and incur only $200 in medical expenses, but there is a 20% probability that he will be ill and incur $20,000 in medical expenses. If an insurance company charged Hong an actuarially fair premium, how much would Hong pay for health insurance?
A) $3,840
B) $4,000
C) $4,160
D) $3,460

Free

Multiple Choice

Q 45Q 45

Roulan has wealth of $40,000 as long as his business does not burn down. However, there is a 50% probability that his business will burn down, causing a loss of $30,000 and leaving him with $10,000 of wealth. Roulan's utility function is given by U = W

^{0.5}, where W is wealth. Suppose Roulan purchases insurance to cover the potential $30,000 loss. If the insurance premium is actuarially fair, Roulan's utility with insurance is: A) 100.40. B) 145.23. C) 158.11. D) 161.51.Free

Multiple Choice

Q 46Q 46

Jing purchased property and must make an annual mortgage payment of $6,000 for the next 30 years. What is the present discounted value of the payment stream at a 5% interest rate?
A) $88,450.42
B) $110,682.21
C) $92,234.71
D) $105,320.57

Free

Multiple Choice

Q 47Q 47

For calculating net present value (NPV), the interest rate represents the _____ of investing, so a higher interest rate _____ the NPV.
A) opportunity cost; increases
B) opportunity cost; reduces
C) benefit; increases
D) benefit; reduces

Free

Multiple Choice

Q 48Q 48

Roulan has wealth of $40,000 as long as his business does not burn down. However, there is a 50% probability that his business will burn down, causing a loss of $30,000 and leaving him with $10,000 of wealth. Roulan's utility function is given by U = W

^{0.5}, where W is wealth. What is Roulan's expected utility? A) 150 B) 48 C) 66 D) 120Free

Multiple Choice

Q 49Q 49

The demand for capital is Q

^{D}= 100 - 20r and the supply of capital is Q^{S}= 12r - 28, where r is the interest rate and Q is the quantity of capital in millions of dollars. The equilibrium interest rate is r = ____. A) 5 B) 2.33 C) 4 D) 9Free

Multiple Choice

Q 50Q 50

A drug company is considering investing $100 million today to bring a weight loss pill to the market. At the end of one year, the firm will know the payoff; there is a 0.50 probability that the pill will sell at a high price and generate $37 million per year of profit forever and a 0.50 probability that the pill will sell at a low price and generate $1 million per year of profit forever. The interest rate is 10%. Suppose the firm decides to wait one year to determine whether the pill will sell at a high or low price. The firm will not invest if it learns that the pill will sell at a low price. What is the net present value of waiting one year to make the investment?
A) $107.44 million
B) $88 million
C) $201.22 million
D) $64.5 million

Free

Multiple Choice

Q 51Q 51

The real interest rate is the rate:
A) advertised in capital markets; it does not account for changes in the price level.
B) expressed in terms of purchasing power.
C) that measures the return in numbers of dollars.
D) that removes the distortionary effects of compounding.

Free

Multiple Choice

Q 52Q 52

The demand and supply of capital are given by Q

^{D}= 200 - 60r and Q^{S}= 20r - 40, where Q is the quantity of capital in millions of dollars and r is the interest rate measured as a percentage. What is the equilibrium interest rate? A) 5% B) 2% C) 8% D) 3%Free

Multiple Choice

Q 53Q 53

Tankim has $4,000 in his savings account, which pays an annual interest rate of 2%. The value of his account at the end of eight years is:
A) $4,200.
B) $4,686.64.
C) $4,640.
D) $4,808.16.

Free

Multiple Choice

Q 54Q 54

The demand for capital is Q

^{D}= 46 - 10r and the supply of capital is Q^{S}= 2r - 2, where r is the interest rate (measured as a percentage) and Q measures the quantity of capital in millions of dollars. The equilibrium quantity of capital is ____. A) 6 B) 36 C) 9 D) 7.2Free

Multiple Choice

Q 55Q 55

Roulan has wealth of $40,000 as long as his business does not burn down. However, there is a 50% probability that his business will burn down and cause a $30,000 loss, leaving her with $10,000 of wealth. Roulan's utility function is given by U = W

^{0.5}, where W is wealth. What is the maximum price that Roulan would pay for full insurance that covers the potential $30,000 loss?Free

Multiple Choice

Q 56Q 56

The demand for capital is Q

^{D}= 100 - 20r and the supply of capital is Q^{S}= 12r - 28, where r is the interest rate and Q is the quantity of capital in millions of dollars. Assume that households increase savings such that households save $20 million more at every interest rate level. The new equilibrium interest rate is r = ____. A) 3.62 B) 3.38 C) 3.13 D) 2.68Free

Multiple Choice

Q 57Q 57

A drug company is considering investing $100 million today to bring a weight loss pill to the market. At the end of one year, the firm will know the payoff; there is a 0.50 probability that the pill will sell at a high price and generate $37 million per year of profit forever and a 0.50 probability that the pill will sell at a low price and generate $1 million per year of profit forever. The interest rate is 10%. What is the expected net present value of this investment?
A) $280 million
B) $112 million
C) $44 million
D) $90 million

Free

Multiple Choice

Q 58Q 58

The demand for capital is Q

^{D}= 100 - 20r and the supply of capital is Q^{S}= 12r - 28, where r is the interest rate and Q is the quantity of capital in millions of dollars. Assume that households increase savings such that households save $20 million more at every interest rate level. The new equilibrium quantity of capital is ____. A) 22.7 B) 25.6 C) 32.4 D) 34.8Free

Multiple Choice

Q 59Q 59

Conrad has $10,000; he is considering whether to (1) invest in a mutual fund with an 8% annual interest rate or (2) remodel his kitchen. If he remodels the kitchen, he will be able to sell his home for an additional $13,000 when he moves at the end of five years. Which of the following statements is (are) TRUE?
I) The net present value of remodeling the kitchen is -$1,152.42.
II) Conrad is better off investing his money in the mutual fund.
III) If Conrad invests in the mutual fund, his money will grow to $10,800 at the end of five years, making this a worse investment than the kitchen remodel.
A) II
B) I
C) I and II
D) I and III

Free

Multiple Choice

Q 60Q 60

Reed is interested in purchasing a machine for his business that costs $10,000. The machine would be used for three years and generate $4,000 per year of cash flow. After three years, the machine could be sold for $3,000. What is the net present value of the machine at 12%?
A) $1,742.67
B) $3,200.23
C) $2,012.18
D) $4,158.40

Free

Multiple Choice

Q 61Q 61

The demand for capital is Q

^{D}= 46 - 10r and the supply of capital is Q^{S}= 2r - 2, where r is the interest rate (measured as a percentage) and Q measures the quantity of capital in millions of dollars. The equilibrium interest rate is r = ____. A) 4.6 B) 1 C) 4 D) 5.5Free

Multiple Choice

Q 62Q 62

A corporate bond has a $10,000 face value, five-year maturity, and an 8% annual coupon rate. If interest rates are 6%, what is the present discounted value of the bond?
A) $10,540.18
B) $9,805.25
C) $10,842.47
D) $11,220.82

Free

Multiple Choice

Q 63Q 63

Which of the following statements is TRUE?
A) The present discounted value of future cash flows rises as the time to payoff increases.
B) The present discounted value of future cash flows rises with the interest rate.
C) The present discounted value of future cash flows falls when the interest rate rises.
D) The present discounted value of future cash flows remains constant as the time to payoff decreases.

Free

Multiple Choice

Q 64Q 64

(Table: Health Status) Suppose the person's utility function is given by U = I

^{0.5}, where I is income. What is the person's expected utility? A) 270 B) 45 C) 184 D) 81Free

Multiple Choice

Q 65Q 65

Suppose that you deposit $2,828 in your savings account, which pays 4% interest annually. What is your account balance at the end of four years?
A) $3,308.36
B) $2,417.39
C) $3,100.12
D) $2,988.44

Free

Multiple Choice

Q 66Q 66

If Chun puts $344 into his saving account, his account will have grown to $379.26 by the end of two years. What is the interest rate earned on Chun's savings account?
A) 3.5%
B) 4.2%
C) 5%
D) 7%

Free

Multiple Choice

Q 67Q 67

(Figure: Utility and Income) Suppose that Sara has an income of $80,000 but if her business burns down, her income drops to $20,000. Sara's expected income is $____.
A) 60,000
B) 50,000
C) 100,000
D) 80,000

Free

Multiple Choice

Q 68Q 68

A drug company is considering investing $100 million today to bring a weight loss pill to the market. At the end of one year, the firm will know the payoff; there is a 0.50 probability that the pill will sell at a high price and generate $37 million dollars per year of profit forever and a 0.50 probability that the pill will sell at a low price and generate $1 million per year of profit forever. The interest rate is 10%. Suppose the firm decides to wait one year to determine whether the pill will sell at a high price or a low price. The firm will not invest if it learns that the pill will sell at a low price. What is the option value of waiting one year to make the investment?
A) $10 million
B) $46.4 million
C) $17.44 million
D) $8.1 million

Free

Multiple Choice

Q 69Q 69

Which of the following statements is (are) TRUE?
A) If the real interest rate is 3% and the nominal rate is 5%, the inflation rate is 8%.
B) If the nominal interest rate is 5% and inflation is 2.5%, the real interest rate is 2.5%.
C) If the nominal interest rate is 5% and inflation is 4%, the real interest rate is 9%.
D) If the real interest rate is 3% and inflation is 5%, the nominal interest rate is 2%.

Free

Multiple Choice

Q 70Q 70

Assume a future payment of $10,000. If r = 1 and T = 1, then the present value of $10,000 is $____.
A) 10,000
B) 9,000
C) 8,000
D) 5,000

Free

Multiple Choice

Q 71Q 71

(Table: Taxi Fleet) Metro Cab is considering replacement of its fleet of old taxicabs. To replace its fleet, Metro must spend $150,000 on new taxicabs. The new taxis will incur $5,000 of maintenance expenses per year. Alternatively, Metro could spend $20,000 today to refurbish its taxicabs and incur an additional $20,000 per year of maintenance expenses for the next three years. Metro would then have to buy new taxicabs for $150,000 at the end of three years, leading to lower maintenance expenses of $5,000 per year. Using an interest rate of 10%, the net present value of the first three years is $____.
A) 65,000
B) 37,272.73
C) 20,000
D) 195,000

Free

Multiple Choice

Q 72Q 72

Jerome operates a car repair shop and is considering whether to purchase a computer diagnostic tool for Korean automobiles. The tool, which costs $4,000, will enable Jerome to service Korean automobiles. This added business will give Jerome additional income of $2,000 in each of the next three years. Jerome ____ purchase the tool because the net present value of the tool is ____.
A) should; greater than zero
B) should; greater than $2,000
C) should not; less than zero
D) should not; less than $2,000

Free

Multiple Choice

Q 73Q 73

(Table: Benefit Payout) What is the expected value of the benefit payout?
A) $1.33 million
B) $1 million
C) $2.2 million
D) $2.5 million

Free

Multiple Choice

Q 74Q 74

If Franco deposits $1,000 today in his account, he will have $1,200 at the end of two years. The annual compounded interest rate on Franco's account is ___%.
A) 20
B) 10
C) 9.54
D) 2

Free

Multiple Choice

Q 75Q 75

What is the option value of waiting?
A) the increase in the net present value from postponing an investment until uncertainty about the investment returns is reduced
B) the use of a risk-free discount rate for the evaluation of risky investments
C) the difference between the present discounted value calculated from using the nominal interest rate and the real interest rate
D) the interest rate that causes the net present value of an investment to equal zero

Free

Multiple Choice

Q 76Q 76

(Table: Investments IV) Suppose that the interest rate is 9% and a firm expects the following benefits and costs for a period of three years and a given investment. Which of the following statements is (are) TRUE? I. Based on the net present value, the firm should not undertake this investment.
II) The net present value of this investment is greater than zero.
III) Based on the net present value, the firm should undertake this investment.
A) I, II, and III
B) II and III
C) I
D) I and III

Free

Multiple Choice

Q 77Q 77

(Table: Gambling and Risk) A _____ person prefers gamble _____ to gamble _____.
A) risk-averse; B; A
B) risk-averse; A; B
C) risk-neutral; A; B
D) risk-neutral; B; A

Free

Multiple Choice

Q 78Q 78

(Table: Account Balance) Using an interest rate of 5%, the value of the savings account balance in year five is $____.
A) 7,835.26
B) 12,500
C) 12,762.82
D) 16,105.10

Free

Multiple Choice

Q 79Q 79

An increase in business confidence leads many firms to expand their factories, which causes the _____ capital to increase and interest rates to _____.
A) demand for; rise
B) demand for; fall
C) supply of; rise
D) supply of; fall

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Multiple Choice

Q 80Q 80

At a 10% interest rate, every $____ spent today reduces the amount of a person's savings by almost $100 in 10 years.
A) 10
B) 38.55
C) 100
D) 5

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Multiple Choice

Q 81Q 81

(Figure: Utility and Income) Suppose that Sara has an income of $80,000 but if her business burns down, her income drops to $20,000. Sara's certainty equivalent is ____.
A) 60
B) 50
C) 47.7
D) 20

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Multiple Choice

Q 82Q 82

Fang has the opportunity to buy an investment that pays $500 at the end of each of the next two years. If interest rates are 6.5%, what is the maximum price that Fang should pay for this investment?
A) $910.31
B) $889.23
C) $777.20
D) $686.40

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Multiple Choice

Q 83Q 83

The demand for capital is Q

^{D}= 100 - 20r and the supply of capital is Q^{S}= 12r - 28, where r is the interest rate and Q is the quantity of capital in millions of dollars. The equilibrium quantity of capital is ____. A) 32 B) 213 C) 20 D) 80Free

Multiple Choice

Q 84Q 84

A company is considering extracting natural gas from one of its properties. The initial extraction cost is $8 million, and all of the gas will be extracted in two years. The profits from selling the natural gas will be $6 million in one year and $5 million in two years. What is the net present value of this investment at 12%?
A) $2.5 million
B) $1,343,112
C) $800,780
D) $1,020,645

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Multiple Choice

Q 85Q 85

Jasmine is considering buying a 1954 Chevy, restoring it, and selling it. She calculates a 0.2 probability that she will gain 25% from the project, a 0.3 probability that she will gain 10%, and a 0.5 probability that she will gain 5%. What is Jasmine's expected return?
A) 18%
B) 10.5%
C) 7%
D) 12%

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Multiple Choice

Q 86Q 86

(Table: Investments II) Which of the following lists the investments in order from highest to lowest net present value?
A) I, II, III
B) III, II, I
C) III, I, II
D) I, III, II

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Multiple Choice

Q 87Q 87

Assume a future payment of $10,000. If r = 1 and T = 5, then the present value of $10,000 is $____.
A) 10,000
B) 5,000
C) 2,000
D) 312.50

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Multiple Choice

Q 88Q 88

Mark is considering spending $25,000 on a farm tractor that will increase his crop yield and bring additional revenues of $4,000 for each of the next seven years. Mark should:
A) buy the tractor because its benefits of $28,000 outweigh its costs of $25,000.
B) buy the tractor because inflation will reduce the value of future cash flows.
C) use present discounted value analysis to decide whether the tractor is a good investment.
D) not buy the tractor because the payback period extends beyond three years.

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Multiple Choice

Q 89Q 89

(Table: Taxi Fleet) Metro Cab is considering replacement of its fleet of old taxicabs. To replace its fleet, Metro must spend $150,000 on new taxicabs. The new taxis will incur $5,000 of maintenance expenses per year. Alternatively, Metro could spend $20,000 today to refurbish its taxicabs and incur an additional $20,000 per year of maintenance expenses for the next three years. Metro would then have to buy new taxicabs for $150,000 at the end of three years, leading to lower maintenance expenses of $5,000 per year.
a. Complete the last column of the table.
b. At an interest rate of 10%, should Metro purchase the new taxicabs today or postpone the purchase until the end of the third year?

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Essay

Q 90Q 90

Benny was seriously injured at his place of employment and can no longer work. If Benny hadn't been injured, he would have worked five more years and would have earned $60,000 each year. What is the present discounted value of Benny's lost earnings at a 5% interest rate?

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Q 91Q 91

Suppose a real estate agent's utility function is given by U = I

^{0.5}, where I is income. The agent has uncertain income, such that this year she has a 20% chance of earning $62,500 and an 80% chance of earning $160,000. The income level that would offer the same expected utility is $136,900. What is this agent's risk premium?Free

Essay

Q 92Q 92

Answer the following questions.
a. Using the Rule of 72, how long does it take for an account balance to double at an 8% interest rate?
b. What is the present discounted value of $500 received annually until the end of time at a 15% interest rate?

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Essay

Q 93Q 93

A beef processing firm is considering whether to upgrade its plant at a cost of $200,000 or invest in an account that earns 12% annual interest. If it upgrades its plant, the firm will generate an additional $70,000 of profit each year for the next three years. Should the firm upgrade its plant?

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Q 94Q 94

A pharmaceutical company is considering producing a generic drug. If it spent $50 million today, the pharmaceutical company could begin selling its drug in one year. The interest rate is 10% and all returns last until the end of time.
a. Suppose the drug will earn $8 million a year. What is the net present value of producing the drug?
b. Suppose the drug will earn $4 million a year. What is the net present value of producing the drug?
c. Suppose there is a 50% probability that the drug will earn $8 million a year and a 50% probability that it will earn $4 million a year. What is the expected net present value of producing the drug?
d. Suppose the pharmaceutical company waits one year to learn whether it will earn $8 million or $6 million a year. If $8 million a year, it will spend $50 million to bring the drug to market. What is the net present value of bringing the drug to market if the company waits one year and finds out that it will earn $8 million?
e. What is the option value of waiting one year to determine the profitability of the drug?

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Essay

Q 95Q 95

The demand for capital is Q

^{D}= 100 - 20r and the supply of capital is Q^{S}= 12r - 28, where r is the interest rate and Q is the quantity of capital in millions of dollars. What are the equilibrium interest rate and quantity of capital?Free

Essay

Q 96Q 96

The market for capital is in equilibrium at an interest rate of 3% and a quantity of $10 million.
a. Using demand and supply curves, illustrate the market equilibrium.
b. Suppose that households become more frugal and decide to spend less and save more. Using supply and demand curves, illustrate this effect in the market for capital.
c. Suppose that businesses become more optimistic about future demand and start to invest heavily in capital. Using supply and demand curves, illustrate this effect in the market for capital assuming the equilibrium in part (a) is the starting point.

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Essay

Q 97Q 97

You've won a radio contest that gives you $500 of free gas per year for the next 20 years. What is the value of this prize at a 6% interest rate? Would this prize be more or less valuable at a 10% interest rate?

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Essay

Q 98Q 98

(Table: Value Analysis I) Complete the table and graph, assuming a future payment of $10,000. What is the relationship between present value and the interest rate, holding time constant? What is the relationship between present value and time, holding the interest rate constant?

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Essay

Q 99Q 99

Liqin fixes up old cars and sells them to supplement his retirement income. Liqin came across a beat-up 1955 Corvette that he is considering rebuilding and selling. He estimates a 0.2 probability that he will gain 15% on the deal, a 0.2 probability that he will gain 10%, and a 0.6 probability that he will gain 5%. What is Liqin's expected return for fixing up and selling the Corvette?

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Essay

Q 100Q 100

Qing and her coworkers like to bet each year on who will win the NCAA basketball tournament. Each person pays $50 to be part of the pool. Qing estimates that she has a 10% chance of winning the pot, equal to $1,000, paid half now and the other half at the start of the same tournament next year. What is Qing's expected present value of playing if the interest rate is 2.5%?

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Q 101Q 101

A restaurant owner is considering refurbishing his restaurant at a cost of $40,000 to generate increased sales. There is a 50% probability that the refurbished restaurant will increase profits by $26,000 each year for the next two years and a 50% probability that profits will increase by only $18,000 each year for the next two years. Calculate the expected net present value of refurbishing the restaurant at an interest rate of 8%. Do you advise the restaurant owner to refurbish the restaurant?

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Essay

Q 102Q 102

(Figure: Utility and Income) Suppose that Sara has an income of $80,000 but if her business burns down, her income drops to $20,000.
a. What is Sara's expected income?
b. What is the probability that Sara's business will burn down?
c. What is Sara's expected utility?
d. What is Sara's utility evaluated at her expected income? (You will not be able to give a specific value, so provide a range of values for your answer.)
e. What is Sara's certainty equivalent?

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Q 103Q 103

Daiyu's parents have decided to save for her college education. They estimate they will need $100,000 18 years from now to pay for it. If the interest rate remains fixed at 5% over this period, how much money will Daiyu's parents have to put into savings today to meet their goal?

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Essay

Q 104Q 104

Lin has wealth of $100,000 and faces a 5% probability that she will get sick and lose $40,000.
a. What is Lin's expected wealth?
b. What is Lin's expected loss?
c. What price would Lin pay for an actuarially fair insurance policy that would reimburse her the full value of her loss?
d. Suppose that Lin's certainty equivalent is $97,000. What is Lin's risk premium?

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Essay

Q 105Q 105

A corporate bond has a $10,000 face value and offers a 7% coupon rate. The bond matures at the end of three years.
a. If the interest rate is 7%, what is the present discounted value of the bond?
b. If the interest rate is 5%, what is the present discounted value of the bond?
c. Suppose the bond is selling for $9,800. Show how you would solve for the bond's yield to maturity.

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Essay

Q 106Q 106

A timber rancher is considering harvesting a stand of trees. The wood from the trees would sell today for $70,000. If the timber rancher allows the trees to grow for two more years, he can sell more wood and earn $79,000. At an interest rate of 8%, should the timber rancher harvest the trees today or wait two years before harvesting?

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Essay

Q 107Q 107

The demand for capital is Q

^{D}= 100 - 20r and the supply of capital is Q^{S}= 12r - 28, where r is the interest rate and Q is the quantity of capital in millions of dollars. Assume that households increase savings such that households save $20 million more at every interest rate level. What are the new equilibrium interest rate and quantity of capital?Free

Essay

Q 108Q 108

Jiayi would like to save for a car that will cost her $20,000 in five years. If the current interest rate is 6%, how much will she need to set aside, assuming monthly compounding?

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Essay

Q 109Q 109

(Table: Payback Period) What is the payback period on this investment? If management requires a two-year payback period, will it approve the investment? If management instead uses the net present value method, will it approve this investment at a 10% interest rate?

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Q 110Q 110

Answer the following questions.
a. Miserly Mark claims that, at a 10% interest rate, every $38.55 spent today reduces the amount of a person's savings by almost $100 in 10 years. Prove whether Miserly Mark is right.
b. Tom is considering an investment that gives a $400 payout in one year and a $600 payout in two years. If interest rates are 6%, what is the maximum price that Tom should pay for this investment?
c. If Franco deposits $1,000 today in his account, he will have $1,200 at the end of two years. What is the annual compounded interest rate on Franco's account?

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Q 111Q 111

Sam is considering the purchase of a vending machine to sell sodas. The cost of the vending machine is $3,400. Sam estimates that the vending machine will last for five years and will provide net income of $800 each year for its lifetime.
a. If Sam pays $3,400 for the vending machine today, what is its net present value at 7%? Should Sam purchase the vending machine?
b. If Sam pays $3,400 for the vending machine today, what is its net present value at 5%? Should Sam purchase the vending machine?
c. Suppose the seller of the vending machine allows Sam to defer, without penalty or interest, payment for the vending machine until the end of the first year. What is its net present value at 7%? Should Sam purchase the vending machine?

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Essay

Q 112Q 112

Huan can buy one of two investments. The first pays $1,000 at the end of three years. The second pays $400 at the end of each of the next two years and $200 in the final year. Each investment costs $800. If interest rates are 4%, which investment should Huan buy?

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Essay

Q 113Q 113

The demand for capital is Q

^{D}= 46 - 10r and the supply of capital is Q^{S}= 2r - 2, where r is the interest rate (measured as a percentage) and Q measures the quantity of capital in millions of dollars. What are the equilibrium interest rate and quantity of capital?Free

Essay

Q 114Q 114

Tarek is considering buying a house to renovate and flip (resell). He calculates a 0.3 probability that he will gain a 32% return from the project, a 0.3 probability that he will gain a 21% return, and a 0.4 probability that he will gain a 15% return. Tarek expects a return of _____ from this project.

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Q 115Q 115

The demand for capital is Q

^{D}= 80 - 15r and the supply of capital is Q^{S}= 20r - 60, where r is the interest rate and Q is the quantity of capital in millions of dollars. Businesses become more optimistic about the business environment and borrow $70 million more capital at each interest rate level. What happens to the equilibrium interest rate and quantity of capital as a result of this newfound optimism?Free

Essay

Q 116Q 116

Jerome operates a car repair shop and is considering whether to purchase a computer diagnostic tool for Korean automobiles. The tool, which costs $4,000, will enable Jerome to service Korean automobiles. This added business will give Jerome additional income of $2,000 in each of the next three years. What is the net present value of the tool at 5.5%? Should Jerome buy it?

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