ECON 230 Introduction to Macro Economics

1. Making consumption and savings decisions is not always about investing in businesses for retirement. People with unpredictable incomes like full commission sales people have to think about their incomes very carefully. Bob sells cars and in good years earns $75,000 a year. In bad years he earns $30,000 a year (ignore taxes, benefits etc.). Bob wants to have a smooth consumption pattern year in and year out.

a. How much should Bob budget for each year?

b. In good years Bob will need to save. How much should he save?

c. How much will Bob pull out of savings in bad years?

d. If Bob can invest his money at 15% return and borrow for 5% what should he do?

2. What does an economist mean when he says investment? How is it different form investing in the stock market or is it?

3. Firms borrow money to finance projects they estimate will provide a return, Interest rates determine what projects will cost too much and which ones can be under taken.

a. If the prevailing borrowing rate is 5% which of the following projects can this firm undertake?

b. If the prevailing rate is 5% and they have a borrowing limit of $200 which ones will they undertake?

c. If the borrowing limit is $1,000 but the rate is 12% which ones will they undertake

Project

Expected Return

Initial Investment

A

12%

$100

B

16%

$150

C

4%

$75

D

8%

$30

4. Below are 4 combinations of investments/savings options, choose which one is least risky of each pair.

a. Savings account or stocks

b. Treasury bills or corporate bonds

c. Disney Stock or investing in s a bio-tech start up

d. Land or Apple bonds

5. The United States borrows a lot of money but is a young country, 240 year-old compared to England which is over 1,000 years old and China which is over 5,000 years old. In our life cycle consumption hypothesis young people borrow more to get started and then pay it back in middle-age. There are differences between people who have an expected life span and such and countries which may last a very long time but is there a parallel here? Is The US just a young country borrowing in its early years?

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