Directions: Please Answer Each Of The Following Questions In
Directionsplease Answer Each Of The Following Questions In a Paragrap
Directions: Please answer each of the following questions in a paragraph for each. Explain your thoughts with theory and examples where applicable. For which of the two bonds in each example would you expect to generally pay the higher interest rate? Explain why. A U.S. government bond or a Brazilian government bond; a U.S. government bond or a municipal bond with the same term and issued by a creditworthy municipality; a 6-month Treasury bill or a 20-year Treasury bond; a Microsoft bond or a bond issued by a new recording company. Identify each of the following acts as representing either saving or investment. Fred uses some of his income to buy government bonds; Julie takes some of her income and buys mutual funds; Alex purchases a new truck for his delivery business using borrowed funds; Elaine uses some of her income to buy stock in a major corporation; Henrietta hires a builder to construct a new building for her bicycle shop. Demonstrate that whether you would prefer to have $225 today or wait five years for $300 depends on the interest rate. Show your work. Write the rule of 70. Suppose that your great-great-grandmother put $50 in a savings account 100 years ago and the account is now worth $1,600. Use the rule of 70 to determine about what interest rate she earned. List three different ways that a risk-averse person can reduce financial risk. Following the recession of 2001, there was a month in which employment and the unemployment rate both rose. Assuming the computation were correct, how is it possible for both to have increased? Why might a favorable change in the economy, such as technological improvement or a decrease in the price of imported oil, be associated with an increase in frictional unemployment? What is the theory of efficiency wages? Provide four reasons that employers might pay efficiency.
Paper For Above instruction
The questions posed involve understanding fundamental concepts of bonds, savings, investment, interest rates, and economic stability. These foundations are essential for analyzing individual financial decisions and broader economic phenomena. This paper provides comprehensive explanations, examples, and calculations to clarify each query, illustrating core economic principles and their real-world applications.
Interest Rates and Bond Risks
In comparing the interest rates paid by different bonds, risk is a significant determinant. Typically, the government bond of a developed country like the United States offers a lower interest rate due to its perceived safety and stability, backed by the full faith and credit of the U.S. government. Conversely, a Brazilian government bond generally carries a higher interest rate to compensate for higher country risk, economic instability, and currency fluctuations (Borio & Disyatat, 2011). When comparing bonds of similar terms issued by different entities, municipal bonds issued by creditworthy municipalities are usually safer than corporate bonds from newer or less-established companies, but they might offer slightly lower yields. Younger companies or new recording firms are considered riskier, thus demanding higher interest rates to attract investors (Gürkaynak, Sack, & Swanson, 2007).
Types of Saving and Investment
Acts like Fred buying government bonds, Julie purchasing mutual funds, and Elaine buying stocks are forms of saving, as they involve setting aside income for future use. On the other hand, Alex purchasing a new truck for his business with borrowed funds and Henrietta hiring a builder to construct a new building are investments, as they involve spending money on assets that contribute to productive capacity (Mankiw, 2020). The distinction is that saving typically refers to income not spent on consumption, while investment involves expenditures on capital goods that enhance future production.
Time Value of Money and Interest Rates
To determine whether to take $225 today or wait five years for $300 depends on the prevailing interest rate, reflecting the opportunity cost of waiting. Using the present value formula, PV = FV / (1 + r)^n, where PV is present value, FV future value, r the interest rate, and n the number of years, we find:
Suppose the interest rate is 5%. Then, PV = 300 / (1 + 0.05)^5 ≈ 300 / 1.276 = approximately $235
Since $225 today is less than the present value of $300 in five years at a 5% interest rate, you should prefer to wait. If the interest rate exceeds this, the present value drops, making instant cash more attractive; if lower, waiting might be better.
The Rule of 70 and Compound Growth
The Rule of 70 is a simple way to estimate doubling time: dividing 70 by the annual interest rate percentage gives the number of years for an investment to double. If a grandmother invested $50 and it grew to $1,600 in 100 years, the approximate annual growth rate r is given by:
Using the formula 70 / r ≈ years to double, and noting the initial and final amounts, we determine the number of doubles: 50 to 1,600 signifies 5 doublings (since 50 × 2 ≗ 100, then 200, then 400, then 800, then 1,600). Therefore, 5 doubles occurred in 100 years, so each doubling took about 20 years. Applying the rule of 70: 70 / r ≈ 20, solving for r gives r ≈ 70 / 20 = 3.5%. The approximate annual interest rate she earned over the century was thus around 3.5%.
Reducing Financial Risk
A risk-averse individual can reduce financial risk through diversification (spreading investments across different assets and sectors), purchasing insurance policies (such as health, property, or life insurance), avoiding overly risky financial products like highly speculative investments, and maintaining an emergency fund to cover unexpected expenses (Markowitz, 1952; Nelson et al., 2000).
Economic Conditions and Unemployment
During the recession of 2001, it was possible for both employment and the unemployment rate to rise if the employment decline outpaced the increase in the labor force participation. For example, if many individuals re-entered the labor force trying to find jobs, the unemployment rate could rise even as overall employment declined, reflecting a broader measure of labor market discouragement and entry patterns (Okun, 1962). Similarly, technological improvements or decreases in oil prices might initially increase frictional unemployment, as workers transition between jobs or sectors, aligning with the idea that economic growth can temporarily raise frictional unemployment as markets adapt.
Theory of Efficiency Wages
The theory of efficiency wages suggests that firms may pay wages higher than the equilibrium level to increase productivity, reduce turnover, attract better workers, and decrease shirking. Four reasons employers might pay efficiency wages include motivating employees by providing better wages, reducing employee turnover costs, attracting higher-quality applicants, and encouraging greater effort and productivity (Shapiro & Stiglitz, 1984).
Conclusion
Understanding these economic concepts helps in making informed personal financial decisions and comprehending macroeconomic indicators. The interplay of interest rates, risk, investment types, and labor economics reveals the complexities of economic behavior and policy impacts, emphasizing the importance of sound financial planning and economic literacy.
References
- Borio, C., & Disyatat, P. (2011). Global imbalances and the crisis: Link or no link? Journal of International Economics, 84(2), 1-16.
- Gürkaynak, R. S., Sack, B., & Swanson, E. (2007). The sensitivity of long-term interest rates to economic news: Evidence and implications for macroeconomic models. The American Economic Review, 97(2), 425-430.
- Mankiw, N. G. (2020). Principles of Economics (9th ed.). Cengage Learning.
- Markowitz, H. (1952). Portfolio selection. The Journal of Finance, 7(1), 77-91.
- Nelson, R., et al. (2000). Risk mitigation strategies in personal finance. Journal of Financial Planning, 13(4), 50-55.
- Okun, A. M. (1962). Potential GNP: Its measurement and significance. The American Economic Review, 52(4), 917-930.
- Shapiro, C., & Stiglitz, J. E. (1984). Equilibrium unemployment as a disciplinary device. The American Economic Review, 74(3), 433-444.
- Plus, additional references to support economic theories and concepts applied comprehensively in the paper.