Chapter 8 Solutions

Chapter 8 Solutions - M I M E 3 1 0 E N G I N E E R I N G E...

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Unformatted text preview: M I M E 3 1 0 E N G I N E E R I N G E C O N O M Y SOLUTIONS TO PROBLEM SET #8 INFLATION 1. The average annual current dollar zinc prices are reproduced in the table below, along with the constant 1999 and 1985 dollar prices. All three price series are plotted in the diagram that follows. Note that the current dollar price profile intersects the constant 1999 dollar profile in 1999, and the constant 1985 dollar profile in 1985. Average Annual Zinc Prices (U.S. $/lb) 0.379 0.538 0.538 1999 0.526 0.747 0.373 1979 0.367 0.521 0.514 1998 0.474 0.672 0.310 1978 0.467 0.663 0.646 1997 0.563 0.799 0.344 1977 0.377 0.535 0.511 1996 0.645 0.915 0.370 1976 0.401 0.569 0.534 1995 0.718 1.019 0.390 1975 0.378 0.537 0.493 1994 0.724 1.028 0.360 1974 0.362 0.514 0.462 1993 0.454 0.644 0.207 1973 0.469 0.665 0.584 1992 0.412 0.585 0.178 1972 0.434 0.616 0.528 1991 0.389 0.552 0.161 1971 0.635 0.902 0.746 1990 0.388 0.551 0.153 1970 0.726 1.030 0.820 1989 0.393 0.557 0.147 1969 0.553 0.785 0.602 1988 0.378 0.537 0.135 1968 0.398 0.565 0.419 1987 0.406 0.577 0.139 1967 0.372 0.528 0.380 1986 0.437 0.620 0.145 1966 0.404 0.574 0.404 1985 0.449 0.638 0.145 1965 0.501 0.712 0.486 1984 0.429 0.610 0.136 1964 0.443 0.629 0.414 1983 0.384 0.546 0.120 1963 0.428 0.608 0.385 1982 0.376 0.534 0.116 1962 0.527 0.748 0.446 1981 0.381 0.541 0.116 1961 0.483 0.686 0.374 1980 0.432 0.613 0.130 1960 Constant 1985 $ Constant 1999 $ Current $ Year Constant 1985 $ Constant 1999 $ Current $ Year i) From 1960 to 1990, a slow long-term increase in actual prices is observed. From 1990 onwards, the trend in actual prices flattens out. The price reaches an all-time peak of $0.82 in 1989, and sharply drops back down to the long-term trend line in 1991. Superimposed on this long-term trend are short-term cycles of approximately five years starting in 1973. ii) The real long-term price of zinc seems to follow a long-term cycle of approximately 15 years, with superimposed shorter-term cycles. The period of the short-term cycles is approxi- mately five years, as indicated above. The longer-term cycling has no significant trend, remaining at a level of about $0.65 to $0.70, expressed in constant 1999 monetary units. 57 Current $ Constant 1999 $ Constant 1985 $ 1960 1965 1970 1975 1980 1985 1990 1995 2000 0.2 0.4 0.6 0.8 1 1.2 YEAR AVERAGE ANNUAL ZINC PRICE (U.S. $/lb) iii) Although price levels are lower in constant 1985 money (about 30 percent lower than that of the constant 1999 money prices), and fluctuations have a lower amplitude, the real price trends observed in the constant 1985 money series remain necessarily the same as those in the constant 1999 money series. 2. i) The combined interest-inflation discount rate (i.e. the current money discount rate) is determined from the following relationship, where r is the constant dollar cost of capital or required return on investment, and f is the inflation rate: (1 + r) (1 + f) - 1 = (1.10) (1.05) - 1 = 0.155 or 15.5% ii) The net present value is the sum of discounted cash flows. The net present value is the sum of discounted cash flows....
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This note was uploaded on 04/25/2010 for the course MIME 310 taught by Professor Bilido during the Winter '08 term at McGill.

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Chapter 8 Solutions - M I M E 3 1 0 E N G I N E E R I N G E...

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