Answered: Answer questions 3, 4, and 5. Refer to…

ENGR.ECONOMIC ANALYSIS

14th Edition

ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

Section: Chapter Questions

Problem 1QTC

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Answer questions 3, 4, and 5. Refer to images uploaded below.

3) Biscuits, Inc. (a pastry and baking products company) uses 200,000 bushels of wheat each year. To assure a steady supply of wheat and to provide customers with consistent product line and stable prices, Biscuits agrees upon a contract for wheat with its supplier in January, with a July delivery. How Biscuits, Inc. can hedge the risk of a wheat price increment?

a) Biscuits, Inc. can hedge the risk of increasing price for wheat using a call option.

b) Biscuits, Inc. can hedge the risk of increasing price for wheat using a long position forward contract.

c) Biscuits, Inc. can hedge the risk of increasing price for wheat using a long position future contract.

d) Biscuits, Inc. can hedge the risk of increasing price for wheat using a put option.

4) One possible solution to the adverse selection problem is to offer warranty, as it would be viewed as a signal of quality. ‘Signaling’ refers to?

i) Actions of the ‘Informed party’ in the adverse selection problem

ii) Actions of the ‘Less informed party’ in the adverse section problem

iii) Actions of an Insurance company to gather information

a) Only i

b) Both i and ii

c) Both i and iii

d) Both ii and iii

4) One possible solution to the adverse selection problem is to offer
warranty, as it would be viewed as a signal of quality. ‘Signaling' refers to?
i) Actions of the 'Informed party' in the adverse selection problem
ii) Actions of the 'Less informed party' in the adverse section
problem
iii) Actions of an Insurance company to gather information
a) Only i
b) Both i and ii
c) Both i and iii
d) Both ii and iii
5) Companies A and B have been offered the following rates per annum on a
$20M five-year loan.
Company A
Company B
Fixed Rate
5.0%
6.3%
Floating Rate
LIBOR + 0.1%
LIBOR + 0.6%
Company A requires floating-rate and Company B requires fixed rate. Which
swap is equally attractive to both companies?
a) Company A pays LIBOR+0.1% and Company B pays 5.9%
b) Company A pays LIBOR-0.1% and Company B pays 6.3%
c) Company A pays 5% and Company B pays LIBOR + 0.1%
d) Company A pays LIBOR-0.3% and Company B pays 5.9%

3) Biscuits, Inc. (a pastry and baking products company) uses 200,000
bushels of wheat each year. To assure a steady supply of wheat and to
provide customers with consistent product line and stable prices, Biscuits
agrees upon a contract for wheat with its supplier in January, with a July
delivery. How Biscuits, Inc. can hedge the risk of a wheat price increment?
a) Biscuits, Inc. can hedge the risk of increasing price for wheat
using a call option.
b) Biscuits, Inc. can hedge the risk of increasing price for wheat
using a long position forward contract.
c) Biscuits, Inc. can hedge the risk of increasing price for wheat
using a long position future contract.
d) Biscuits, Inc. can hedge the risk of increasing price for wheat
using a put option.

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