HW1sW09 - Solution Key to Problem Set 1 ECN 134 Finance Economics Part A Investment Environment 1.a Cash is a financial asset because it is the

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Solution Key to Problem Set 1 ECN 134 Finance Economics Prof. Farshid Mojaver Part A: Investment Environment 1.a. Cash is a financial asset because it is the liability of the federal government. b. No. The cash does not directly add to the productive capacity of the economy. c. Yes. d. Society as a whole (except you) is worse off, since taxpayers, as a group will make up for the liability. 2. Ultimately, it is true that real assets do determine the material well being of an economy. Nevertheless, individuals can benefit when financial engineering creates new products that allow them to manage their portfolios of financial assets more efficiently. Because bundling and unbundling creates financial products with new properties and sensitivities to various sources of risk, it allows investors to hedge particular sources of risk more efficiently. 3. a. A fixed salary means that compensation is (at least in the short run) independent of the firm's success. This salary structure does not tie the manager’s immediate compensation to the success of the firm. However, the manager might view this as the safest compensation structure and therefore value it more highly. b. A salary that is paid in the form of stock in the firm means that the manager earns the most when the shareholders’ wealth is maximized. This structure is therefore most likely to align the interests of managers and shareholders. If stock compensation is overdone, however, the manager might view it as overly risky since the manager’s career is already
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This note was uploaded on 11/02/2009 for the course ECON 134 taught by Professor Mojaver during the Summer '08 term at UC Davis.

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HW1sW09 - Solution Key to Problem Set 1 ECN 134 Finance Economics Part A Investment Environment 1.a Cash is a financial asset because it is the

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