Initially, Teresa earns a salary of $400 per year and Sam earns a salary of $200 per year. Teresa lends Sam $100 for one year at an annual interest rate of 20% with the expectation that the rate of inflation will be 16% during the one-year life of the loan. At the end of the year, Sam makes good on the loan by paying Teresa $120. Consider how the loan repayment affects Teresa and Sam under the following scenarios. Scenario 1: Suppose all prices and salaries rise by 16% (as expected) over the course of the year. In the following table, find Teresa's and Sam's new salaries after the 16% increase, and then calculate the $120 payment as a percentage of their new salaries. (Hint: Remember that Teresa's salary is her income from work and that it does not include the loan payment from Sam.) Value of Teresa's new salary after one year The $120 payment as a percentage of Teresa's new salary Value of Teresa's new salary after one year Scenario 2: Consider an unanticipated decrease in the rate of inflation. The rise in prices and salaries turns out to be 5% over the course of the year rather than 16%. In the following table, find Teresa's and Sam's new salaries after the 5% increase, and then calculate the $120 payment as a percentage of their new salaries. The $120 payment as a percentage of Teresa's new salary Value of Sam's new salary after one year An unanticipated decrease in the rate of inflation benefits Value of Sam's new salary after one year The $120 payment as a percentage of Sam's new salary and harms The $120 payment as a percentage of Sam's new salary
Initially, Teresa earns a salary of $400 per year and Sam earns a salary of $200 per year. Teresa lends Sam $100 for one year at an annual interest rate of 20% with the expectation that the rate of inflation will be 16% during the one-year life of the loan. At the end of the year, Sam makes good on the loan by paying Teresa $120. Consider how the loan repayment affects Teresa and Sam under the following scenarios. Scenario 1: Suppose all prices and salaries rise by 16% (as expected) over the course of the year. In the following table, find Teresa's and Sam's new salaries after the 16% increase, and then calculate the $120 payment as a percentage of their new salaries. (Hint: Remember that Teresa's salary is her income from work and that it does not include the loan payment from Sam.) Value of Teresa's new salary after one year The $120 payment as a percentage of Teresa's new salary Value of Teresa's new salary after one year Scenario 2: Consider an unanticipated decrease in the rate of inflation. The rise in prices and salaries turns out to be 5% over the course of the year rather than 16%. In the following table, find Teresa's and Sam's new salaries after the 5% increase, and then calculate the $120 payment as a percentage of their new salaries. The $120 payment as a percentage of Teresa's new salary Value of Sam's new salary after one year An unanticipated decrease in the rate of inflation benefits Value of Sam's new salary after one year The $120 payment as a percentage of Sam's new salary and harms The $120 payment as a percentage of Sam's new salary
Chapter1: Making Economics Decisions
Section: Chapter Questions
Problem 1QTC
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Transcribed Image Text:Initially, Teresa earns a salary of $400 per year and Sam earns a salary of $200 per year. Teresa lends Sam $100 for one year at an annual interest
rate of 20% with the expectation that the rate of inflation will be 16% during the one-year life of the loan. At the end of the year, Sam makes good on
the loan by paying Teresa $120. Consider how the loan repayment affects Teresa and Sam under the following scenarios.
Scenario 1: Suppose all prices and salaries rise by 16% (as expected) over the course of the year. In the following table, find Teresa's and Sam's new
salaries after the 16% increase, and then calculate the $120 payment as a percentage of their new salaries. (Hint: Remember that Teresa's salary is
her income from work and that it does not include the loan payment from Sam.)
Value of Teresa's new
salary after one year
The $120 payment as a percentage
of Teresa's new salary
Value of Teresa's new
salary after one year
Scenario 2: Consider an unanticipated decrease in the rate of inflation. The rise in prices and salaries turns out to be 5% over the course of the year
rather than 16%. In the following table, find Teresa's and Sam's new salaries after the 5% increase, and then calculate the $120 payment as a
percentage of their new salaries.
The $120 payment as a percentage
of Teresa's new salary
Value of Sam's new
salary after one year
An unanticipated decrease in the rate of inflation benefits
Value of Sam's new
salary after one year
The $120 payment as a
percentage of Sam's new salary
and harms.
The $120 payment as a
percentage of Sam's new salary
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