practicefinal2004 - PART A: Answer 5 of 7 questions. Each...

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PART A: Answer 5 of 7 questions .Eachquest ionisworth6marks . Provide short, clear answers to the following: 1. Sarah has been given the following choice of inheritance packages by her parents: Package A is composed of $20 , 000 today and $70 , 000 one year from today. Package B is composed of $60 , 000 today and $35 , 000 one year from today. Sarah considers both of the choices and decides that she prefers package B to package A .Whena sk ed her reasoning, she explains that by borrowing or lending at the current interest rate, r , package B is equivalent to a f xed payout of $50 , 000 in each year (today and one year from now), while package A only gives her $40 , 000eachyear .Drawagraphtoshow how Sarah is making her choice and explain whether comparing the present value of the two packages would lead to the same conclusion. Determine the interest rate r. 1
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2. Draw a graph that shows the (gross) payo f of a call option with strike price K at maturity T as a function of the stock price at time T ( S T ) . Suppose the current market price of the stock is S t <K and the call option has a price C t > 0 . Explain why the value of the option is positive even though the strike price is greater than the current stock price, S t . 3. Describe the ‘lemons’ problem in the used car market. How can the use of a warranty help to solve the problem. 2
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4. A monopolist sets a single price, P M in a market with two types of consumers. At price P M the low-demand consumers do not purchase the good. Explain how surplus will change if the monopolist can price discriminate in the market. (Look at the e f ects of discrimination on the consumer surplus of both types, the producer surplus and the total surplus). 5. Given a duopoly market where f rms compete in quantities, explain why the Cournot equilibrium seems like a reasonable equilibrium in the market. Starting at any arbitrary output for both f rms ( q 1 ,q 2 ) , use a graph to argue why f rm swou ldendupa tthe Cournot equilibrium. 3
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6. Find a Nash equilibrium to the following game: II LR IU( 4 , 7) (8 , 3) M( 2 , 11) (6 , 6) D( 5 , 2) (2 , 5) 4
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7. If a bond will provide a certain payment of C = $100 every year in perpetuity ( t = 1 , 2 , 3 ,... )aswe l lasaonet imepaymento f D =$500 f ve years from now ( t =5) ,at what price, P B 0 should this bond trade today, ( t = 0) if the discount rate is r =12%?
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This note was uploaded on 10/21/2010 for the course STATISTICS Stat 200 taught by Professor Eee during the Spring '10 term at The University of British Columbia.

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practicefinal2004 - PART A: Answer 5 of 7 questions. Each...

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