Econ Micro (book Only)
6th Edition
ISBN: 9781337408066
Author: William A. McEachern
Publisher: Cengage Learning
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Chapter 13, Problem 3P
To determine
The investment at varying expected
Concept Introduction:
Expected Return- The expected value of the potential outcomes or the expected profit or loss with associated known expected rates of return is the Expected Return from an investment
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13. (Use this information to answer qustion 13 - 16) Suppose a household
solves the following two-period consumption-savings problem
max u(c₁) + Bu(c2)
{C1,C2}
s.t. aw Y1 - C1
C2y2
(1+r)a
with u(c) = √c where c₁ is consumption at time 1, c2 is consumption at
time 2, y₁ is houshold income at time 1, 2 is houshold income at time
2 and w is the initial wealth. Suppose the incomes of the household are
$50 in time 1 and $210 in time 2. The initial wealth is $100, the discount
factor is 0.975 and interest rate is 5%. Solve for the household's choice of
C1.
(a) 125.12
(b) 126.58
(c) 175.16
(d) 341.88
14. Now a government wants to introduce income tax in both time 1 and time
2 {1, 2} to finance a construction project that costs $50 in time 1 and
another $52.5 in time 2. Which ones of the following are the household
intertemporal budget constraints.
(a) y1 + 1/2 =C1+
1+1
Y2
(b) w+y1 + = C₁ +
1+r
1+r
(c) wy1T1 +
Y2
T2
1+r
Y2
1+r
= €1 + 12
1+r
(d) wy171 + =C1+
1+r
C2 (1+72)
1+r
15. Solve for the…
2. Exercise 8.2
Howard Bowen is a large-scale cotton farmer. The land and machinery he owns has a current market value of $8 million. Bowen owes his local bank $5
million. Last year Bowen sold $7 million worth of cotton. His variable operating costs were $5 million; accounting depreciation was $40,000, although
the actual decline in value of Bowen's machinery was $60,000 last year. Bowen paid himself a salary of $50,000, which is not considered part of his
variable operating costs. Interest on his bank loan was $400,000. If Bowen worked for another farmer or a local manufacturer, his annual income
would be about $50,000. Bowen can invest any funds that would be derived if the farm were sold to earn 10% annually. (Ignore taxes.)
What is Bowen's accounting profit?
$1,560,000
$1,190,000.00
$1,200,000.00
$1,550,000
What is Bowen's economic profit?
$1,190,000.00
$1,200,000.00
$1,550,000
$1,560,000
22.Use the table below that shows the rate of return and R&D spending for a hypothetical firm. Assume the interest-rate cost of funds is 6%.
Expected rate
of return (%)
R&D
(millions of $)
15
0
12
10
9
20
6
30
3
40
(a)Graph the marginal cost and marginal benefit curves of R&D spending in the graph below. Be sure to label the axes. What is the optimal level of R&D spending?
(b)Now assume that the interest-rate cost of funds is 9%. Show on the graph what happens to the interest-rate cost of funds curve. What is the optimal level of R&D spending?
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