1. You receive a trust account from your Aunt Mable that pays $1,000 at the end of each year forever (into perpetuity). The interest rate is 2% per year. How much is this trust account worth in present value dollars?

a. $25,000

b. $1,000

c. $50,000

d. $365,000

2.What is the interest rate that should be used to ensure a total balance of $5,000 one year now from now if you have a starting balance of $4,000? Write in the number in the blank (for example, if your answer is 5 percent then write 5)

3.A city hires you to evaluate whether it should invest in a water system improvement. The project is expected to generate benefits (in savings to the city) of $14 million today (present period), $5 million in one year from today, and $1 million in two years from today. The project has no returns after that. The project costs nothing today, but will cost $22 million in two years. The interest rate is 10%. What do you advise to the city?

a. The project should be funded

b. The project should not be funded

c. Uncertain

4.You are thinking of getting an MBA degree after you graduate. The degree will take you two years, each of which you could have earned $40,000 at a full-time job. You will not be able to work if you attend the MBA. The program costs $20,000 in tuition and books for the first year (paid in the present, before you start) and $80,000 on tuition and books during the second year (paid one year from now). You figure an MBA degree will earn her $620,000 during the remainder of her work-life (to keep it simple, lets say you work only for a year, which starts in two years the third time period). Paulas time preference for money is associated with a per-period interest rate of 20 percent. Approximately what is the present value of going to college?

a. $100,100

b. $210,400

c. $270,500

d. $440,000

5.Suppose $100 is deposited in a bank account paying 5% compounded annually. If the interest earned is X after 5 years, then the interest earned will be 2X after 10 years.

True

False

6.A basketball player agrees to a $50 million contract with a professional basketball team. The player is paid $10 million per year over the next 5 years. The interest rate is 10%. If the interest rate falls,

a. the present value of this contract will fall

b. the present value of this contract will be unaffected.

c. the present value of this contract will rise.

d. Jacob will be paid less than $10 million each year.

e. Jacob will be paid more than $10 million each year as he can invest the money.

7.The present value formula illustrates that:

a. a decline in the interest rate will cause a decision maker to weigh recent period returns relatively more heavily than before the decline.

b. an increase in the interest rate will cause a decision-maker to weigh distant ( or future) returns relatively more heavily than before the increase.

c. the present value of a fixed sum decreases as the time until it is to be paid increases.

d. both (a) and (c).

e. none of these

8.You are considering buying solar panels for your home, which would lower your electricity bills from $1200 per year to $1000 per year. The panels last for 10 years. The interest rate is 6%.

The present value of the electricity bill savings over the next 10 years (including this present year) is

a. $200 times 10.

b. $200/1.06.

c. $200/1.06¹⁰.

d. $200 (1 + 1/1.06 + 1/1.06² + ... + 1/1.06⁹).

e. $200 x i (1 + 1/1.06 + 1/1.06² + ... + 1/1.06⁹)