1. This is a Myers and Majluf (1984) rational expectations equilibrium problem similar to that discussed in class. Assume the following information about a firm and the value of its liquid assets, assets in-place, and positive NPV projects. The firm has a choice of doing nothing or issuing $1,500 of equity and investing in the positive NPV project. Initially assume that there are only two states of nature (good and bad) with the following information.

	Do nothing		Issue and invest
	Good	Bad	Good	Bad
Probability of state of nature	60%	40%	60%	40%
Liquid assets	500	500	500	500
Assets in place	1500	500	3000	2000
NPV of project	0	0	200	50
Value of firm	2000	1000	3700	2550

Show the rational expectations equilibrium and explain.

Next assume the same information except that there are three states of nature (good, normal and bad) with the following information. Show the rational expectations equilibrium and explain.

	Do nothing			Issue and invest
	Good	Normal	Bad	Good	Normal	Bad
Probability of state	25%	50%	25%	25%	50%	25%
Liquid assets	500	500	500	500	500	500
Assets in place	1500	1000	500	3000	2500	2000
NPV of project	0	0	0	200	125	50
Value of firm	2000	1500	1000	3700	3125	2550