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e303practicefinal2005

# e303practicefinal2005 - PART A Answer 4 of 7 questions Each...

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PART A: Answer 4 of 7 questions . Each question is worth 8 marks. Besuretoexplainyouranswerfully.Showanycalculationsrequiredinordertoarriveatyour answer.Diagramsshouldbewell-labeled.Youmayusepointforminawrittenexplanation aslongasthemeaningoftheanswerisclear. 1. Consider2ndDegreePriceDiscriminationandthedesignofoptimalcontracts(spec- ifyingatotalexpenditurebytheconsumerandaquantityrecieved)thatwillachieve self-selectionby2groupsofconsumers:ahighdemandgroupandalowdemandgroup, where the (linear) low-demand curve lies entirely within the (linear) high-demand curve.Themarginalcostsofthemonopolistareconstantandequaltozero. Explainthemeaningofthephrase°nodistortionatthetop°inthiscontext. Whatdoesitmeanforacontracttobeincentivecompatible. What should the monopolist do if the maximium WTP L is only 1 4 the maximum WTP H ? 2. InaCournotduopolysettingwhereidentical(cost)&rmschooselevelofoutputofa homogeneousgood,explainwhyif&rmsset q 1 = q 2 = 1 2 q M (sothat q 1 + q 2 = q M ) , a &rm(&rm 1 say)hasanincentivetoincreaseoutputeventhoughforasingle&rmwith thesamecosts MR ( q M ) = mc ( q M ) and q M isthepro&t-maximizinglevelofoutput. 3. Ariskaverseinvestorwithmean-varianceutilitymustdecidehowtoallocatewealth betweentworiskyassets A and B (thereisnorisklessasset). ShortSalesarenot permitted,if α isthefractionofwealthinvestedinasset A, 0 α 1 . Thefollowing informationisknownregardingthetwoassets: A B ExpectedReturn r A r B r A > r B StandardDeviation σ A σ B σ A < σ B Soasset A providesahigherexpectedreturnandlowerstandarddeviationthanasset B. Explainhowthecorrelationbetweenassets A and B wille ff ectthesetofe cient portfolios? Explainwhethertheutility-maximizingallocationcanbethesameforboththecase ρ = 1 and ρ = 1 ,where ρ isthecorrelationcoe cient. 4. Jane° spreferencesforintertemporalconsumptionaresuchthatherindi ff erencecurves arerightanglesalongthe45 line(wealthlevelsineachperiodareperfectcomple- ments). Iftheborrowingandlendingrateare not thesame,willacomparisonofthe PresentValueofintertemporalbundlesprovidethesamerankingsasFutureValue? Explainwhyorwhynot. Ifthelending(deposit)rateis r l = 0% , forwhatborrowingrate, r b , isJaneindi ff erent betweenthetwoallocations[notedby(wealthat t = 0 , wealthat t = 1) ]: A = ( w, w 2 ) and B = ( w 2 , 5 4 w )? 1

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5. Aperpetualbondpaying C everyyearhasthesamepriceasa T yearannual couponbondthatpays C T eachyearfor T -yearswithnorepaymentofthefacevalue ( F = 0) . Writeanexpressionforthesizeoftheperpetualcouponpaymentrelativeto the T yearcouponpayment ( i.e.
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e303practicefinal2005 - PART A Answer 4 of 7 questions Each...

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