Lecture02_winter09

# Lecture02_winter09 - Time Value of Money Time Value of...

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Time Value of Money

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Time Value of Money Is Money received Today worth more or less than the same received in the Future? Usually MORE Why?
Time Value of Money We could invest the money received today in a riskless asset and have more in the future. Example: The 6-month Treasury Bill has a return of 1.56%. If \$1,000 are invested in it, after 6 months you end up with \$1,015.6.

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Time Value of Money The conclusion is that \$1,000 today are more valuable than \$1,000 six months from now.
Time Value of Money George Washington received a salary of \$25,000 in 1789 George Bush receives a salary of \$400,000 to go with a \$50,000 expense account. Who was better paid?

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Time Value of Money If we use the CPI Index, \$25,000 in 1789 is the same as \$550,000 today. If we use the GDP per-capita measure, \$25,000 in 1789 is the same as \$23,000,000 today.
Future Value and Compounding If you invest C 0 today, earn a interest rate of r, how much do you have after one year? C 1 = C 0 x(1+r) C 1 is the FUTURE VALUE in one year of C 0 today

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Future Value and Compounding If you invest C 0 today, earn a interest rate of r, how much do you have after two years? After one year C 1 = C 0 x(1+r) In the second year C 2 = C 1 x(1+r)=C 0 x(1+r)x(1+r)=C 0 x(1+r) 2 C 2 is the FUTURE VALUE in two years of C 0 today
What is Compounding? It Means that the interest you receive during the time of your investment is RE-INVESTED and will itself earn interest in the next periods You are earning interest over past interest!

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General Rule If you invest C 0 today, earn a interest rate of r, how much do you have after n years? C n = C 0 x(1+r) n C n is the FUTURE VALUE in n years of C 0 today
Is Compounding Important?

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## This note was uploaded on 01/28/2012 for the course ECON 134a taught by Professor Lim during the Winter '08 term at UCSB.

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Lecture02_winter09 - Time Value of Money Time Value of...

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