Suppose our entrepreneur decides to finance the project partly with debt and partly with equity (=own funds). To get some debt s/he makes the following offer to the other market participants at t=1: Whatever the state of the economy next period I will pay $420 to the person who loans me money now.

With the loan thus obtained, the rest will have to come from own funds. Answer the following questions:

a)What value will market participants attach to this promise?= How big a loan will s/he be able to obtain?= What will be D?

b) How much funds will s/he have to provide?= What will be the value of E?

c) What will be the rate of return accruing to the creditor if the economy does WELL?

d) What will be the rate of return accruing to the creditor if the economy does POORLY?

e) What is the expected rate of return to the creditor, namely Rd?

f) What will be the rate of return accruing to the entrepreneur if the economy does WELL?

g) What will be the rate of return accruing to the entrepreneur if the economy does POORLY?

h) What is the expected rate of return to the entrepreneur, namely Re?