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Department of Economics Professor O’Brien Lehigh University Spring 2011 Brief Answers to Eco 29 Problem Sets (Note: These are brief answers. You will probably want to write longer answers to exam questions in order to make sure that your answers are clear and complete.) Problem Set 1 1. You would rather hold the company’s bonds. Unless the company declares bankruptcy you will still receive coupon payments if you hold the company’s bonds. If you hold the company’s stock, you are unlikely to receive dividend payments, nor is the price of the stock likely to rise. 2. Apparently in the 1880s in French Polynesia these goods were serving as a medium of exchange. They did not serve well as either a store of value or a unit of account. 3. As the Chinese government was being defeated, Chinese paper currency was ceasing to be fiat money, but, at least in Japan, it had become a commodity money. 4. Debasing the coinage will have the effect of increasing the money supply. If people realize that the new coins contain less gold or silver, they may require more of them in exchange for their goods and services. 5. a., b., and d. are counted in M1. 6. There is no effect on M1 because both currency and checking account balances are included in that measure of the money supply. Because M1 is not affected, neither is M2. 7. Another \$20 bill 8. With a discount rate of 10%, the present value of the Yankees’ offer is: \$3,000,000 + 3 2 1 . 1 000 , 000 , 8 \$ 1 . 1 000 , 000 , 7 \$ 1 . 1 000 , 000 , 6 \$ + + = \$20,250,188. The present value of the Giants’ offer is: \$6,000,000 + 3 2 1 . 1 000 , 000 , 6 \$ 1 . 1 000 , 000 , 6 \$ 1 . 1 000 , 500 , 5 \$ + + = \$20,466,566. So, based on the present value criterion, the Giants are making the more valuable offer. With a discount rate of 5%, the present value of the Yankees’ offer is: \$3,000,000 + 3 2 05 . 1 000 , 000 , 8 \$ 05 . 1 000 , 000 , 7 \$ 05 . 1 000 , 000 , 6 \$ + + = \$21,974,193. The present value of the Giants’ offer is: \$6,000,000 + 3 2 05 . 1 000 , 000 , 6 \$ 05 . 1 000 , 000 , 6 \$ 05 . 1 000 , 500 , 5 \$ + + = \$21,863,298. So, the Yankees’ offer is more valuable.

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9. Future value in three years = \$1,000(1.10)
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