Deck 14: Investment, the Capital Market, and the Wealth of Nations

Question 1

A competitive capital market is important to society because it directs resources toward projects that

A) can be completed quickly.
B) create wealth.
C) have an outcome that is known with certainty.
D) reduce the value of the resources employed.

Answer 1

create wealth.

Question 2

Professor Smith completed a study that showed that 60 percent of all the students who graduated from her college purchased new cars. What might explain this?

Answer 2

These students were likely to have accepted jobs at higher wages than the jobs they had as undergraduates. Since employment at a specific salary will allow you to take out a loan, these students probably borrowed the money expecting to pay it back, with interest, from their future income. These students are demonstrating a positive rate of time preference.

Question 3

The net present value of $1,000 received in the future would

A) decline if the $1,000 were received sooner.
B) increase if the delivery date for the $1,000 were set farther into the future.
C) decrease if the interest rate fell.
D) decrease if the interest rate rose.

Answer 3

decrease if the interest rate rose.

Question 4

Which of the following is true of saving and investment?

A) There is no relationship between saving and investment; people can invest without having to save.
B) Saving and investment can never be undertaken together by the same person.
C) Saving and investment must always be undertaken by the same person.
D) If investment is going to be undertaken, someone must save.

Question 5

In a barter economy that had no form of currency, how could interest exist?

Question 6

Compared to investing in physical capital, human capital investments are more likely to be influenced by

A) nonmonetary considerations.
B) depreciation rates.
C) the rate of return.
D) opportunity costs.

Question 7

No questions exist for this section.

Question 8

If a nation is going to benefit fully from technological advances and entrepreneurial ideas, it must

A) be relatively easy for persons from diverse backgrounds to try out their ideas at a relatively low cost.
B) have a mechanism that will bring unsound projects to a halt.
C) have a central investment authority that will review projects and decide which should be undertaken.
D) be both a and b.

Question 9

Erin just won Lotto America, which will pay her $40 million over the next 20 years at a rate of $2 million a year. Is Erin $40 million richer today?

Question 10

The Jones family has always been in the business of manufacturing and selling automobile tires. Usually the profit they earn is reinvested in the business. This year Seth, the youngest son, wants to invest the profit into starting a candy company. If Seth is a shrewd businessman, what does his suggestion indicate?

Question 11

Investment in capital goods only makes sense when

A) the capital goods can be used to increase the future output of consumption goods.
B) the savings rate of a country is low.
C) the interest rate is high and people have a positive rate of time preference.
D) economies are organized along capitalist lines.

Question 12

You are considering the purchase of a business that is currently earning $25,000 per year in after-tax profit. If these conditions are expected to continue year after year into the future, and the interest rate is currently 10 percent, the current market value of this business is

A) $2,500.
B) $25,000.
C) $250,000.
D) $2,500,000.

Question 13

The pure interest yield

A) reflects the expectation that the loan will be repaid with dollars of less purchasing power.
B) is the real price one must pay for earlier availability.
C) reflects the probability of default.
D) is the real rate of return one could expect if the funds were invested in the commodities market.

Question 14

Arnold is considering purchasing a business for $100,000. It will pay him an annual return of $8,000. If the interest rate is 10 percent, should he buy the business? What if the interest rate was 6 percent?

Question 15

In order to fully realize the gains from entrepreneurial innovation,

A) the government should subsidize potential entrepreneurs.
B) it must be relatively easy for people to put their ideas in motion.
C) it must be relatively difficult to continue implementing a bad idea.
D) both a and b must be true.
E) both b and c must be true.

Question 16

The money rate of interest is the

A) real rate of interest minus the inflationary premium.
B) real rate of interest plus the inflationary premium.
C) real rate of interest divided by the inflationary premium.
D) inflationary premium minus the real interest rate.

Question 17

If people prefer to consume goods now rather than in the future, how does anyone save money?

Question 18

If the interest rate were 10 percent, the net present value of $100 to be received one year from now would be

A) $90.
B) $90.91.
C) $100.
D) $110.

Question 19

The Shackled Foot Corporation is a conglomerate with four major divisions. Each division has performed poorly over the years and none has a return greater than 2 percent. Karen, who could have invested her money at 5 percent, buys the company. What does her action imply?

Question 20

In a market economy, persons undertaking an investment project must

A) obtain approval from political authorities before the project can be undertaken.
B) either personally supply the required funds or convince other investors and financiers to do so.
C) finance the project entirely with equity capital.
D) arrange for bank financing before the project can be undertaken.

Question 21

In an uncertain world, private investors

A) always make decisions that lead to economic profit.
B) never make decisions that generate economic losses.
C) sometimes make decisions that lead to economic losses.
D) rarely invest in human capital.

Question 22

Other things constant, countries with higher investment rates will

A) tend to have higher incomes in the future.
B) have to impose high taxes in order to finance the investment.
C) have to use central government planning to allocate investment.
D) have lower standards of living.

Question 23

Which of the following is most important for the growth of income and full realization of an economy's potential?

A) a positive rate of time preference that motivates a high rate of current consumption
B) low real interest rates
C) the use of central planning to allocate investment funds
D) a mechanism capable of attracting savings and channeling them into investment projects that create wealth

Question 24

Data shows that countries that invest more and channel more of those investments into productive projects will generally have

A) higher rates of current consumption.
B) higher future incomes.
C) lower rates of economic growth.
D) lower real interest rates.

Question 25

If a nation is going to achieve its full potential, it must have

A) a low rate of savings and a high rate of current consumption.
B) low real interest rates.
C) a central planning agency to allocate investment funds.
D) a mechanism to attract savings and channel them into productive investment projects.

Question 26

Which of the following encourages people to engage in activities that yield uncertain returns?

A) perfect information
B) economic profit
C) accounting profit
D) all of the above

Question 27

When an investment project generates output that is valued more highly than the value of the resources required for its production,

A) undertaking the project will create wealth.
B) it will generally be profitable to undertake the project if property rights are securely defined and enforced .
C) entrepreneurs seeking profit will have little incentive to undertake such projects.
D) both a and b are correct.

Question 28

Economic profit provides both human and physical capital decision makers with an incentive to

A) exploit workers.
B) reject investments yielding an uncertain return.
C) discover and develop beneficial and productive investment opportunities.
D) do both b and c.

Question 29

In a world of perfect knowledge and communication, competitive markets, and no uncertainty,

A) there would be neither economic profits nor economic losses.
B) economic profits would exist, but losses would be eliminated.
C) economic profits and losses would exist to a greater degree than presently is the case.
D) there would be economic profits; there is not enough information to comment on economic losses.

Question 30

If profit-seeking major oil companies began to use current profits from the oil business to buy department stores and hotel chains, economic analysis suggests that

A) oil company profits were high relative to other possible investment opportunities.
B) oil company executives thought profits from investment outside the oil industry would be lower than oil-industry investments.
C) oil company executives must believe these other investments will be more profitable than investments in the oil industry.
D) the government would be justified in subsidizing oil companies on grounds of economic efficiency.

Question 31

Entrepreneurship is characterized by

A) the ability to visualize and undertake economically beneficial projects.
B) originality and innovation.
C) leadership and discovery.
D) all of the above.

Question 32

Capital markets will channel funds efficiently into productive projects and bring counterproductive projects to a halt, because

A) business firms will direct resources into projects favored by a majority of the citizenry.
B) government will intervene and bring counterproductive projects to a halt.
C) private investors will insist on an accounting of their investments and monitor projects using their funds.
D) central planners will direct funds only to those projects that are productive.

Question 33

Economic profit that stems from entrepreneurship reflects

A) market power achieved through the use of public policy that restricts entry into a market.
B) the ability of some individuals to recognize and undertake economically beneficial projects that have gone unnoticed by others.
C) windfall gains due to unanticipated changes in weather.
D) the influence of special interest groups on the market process.

Question 34

The experience of the former Soviet bloc countries illustrates that high rates of investment may fail to promote rapid economic growth when a country

A) uses central government planning rather than capital markets to allocate investment funds.
B) has a strong education system.
C) has secure property rights.
D) has a tax system that encourages savings.

Question 35

Economic profit provides an incentive for persons investing in human and physical capital to

A) undertake investment projects yielding an uncertain return.
B) discover and develop beneficial (productive) investment opportunities.
C) produce products that increase the value of resources.
D) do all of the above.

Question 36

When an investment project generates output that is valued more highly than the value of the resources required for its production,

A) undertaking the project will create wealth.
B) it will be unprofitable to undertake such a project.
C) entrepreneurs seeking profit will have little incentive to undertake such projects.
D) entrepreneurs will have to be subsidized by the government if they are going to earn a profit.

Question 37

Most of the income of Americans comes from

A) transfer payments.
B) the ownership of bonds and physical assets.
C) the ownership of bonds and corporate stocks.
D) the ownership of human capital.

Question 38

In a world of imperfect knowledge and uncertainty, the return to investors who undertake projects that increase the value of resources is called

A) economic profit.
B) accounting profit.
C) the inflationary premium.
D) the real interest rate.

Question 39

When investment funds are allocated by government rather than by markets,

A) profitable investments are more likely to take place.
B) political influence replaces market return as the basis for allocating funds.
C) funds will consistently be channeled into wealth-creating projects.
D) projects that are political boondoggles will be unlikely to be undertaken.

Question 40

Investments that are mistakenly made and generate losses

A) will occur when future revenues are known with certainty.
B) indicate that the capital market is incapable of generating wealth.
C) are normal costs of developing new projects and technologies in a world of uncertainty.
D) will not occur when capital markets are operating efficiently.

Question 41

As the present value of the future earnings from owning an asset ____, the market value of the asset ____.

A) decreases; increases
B) increases; decreases
C) increases; increases
D) increases; is uncertain

Question 42

What role do non-monetary considerations play in physical capital investment decisions as opposed to human capital investment decisions?

A) they play a minor to nonexistent role in both.
B) they play an equally important role in both.
C) they are probably more important in physical capital investment decisions.
D) they are probably more important in human capital investment decisions.

Question 43

Physical and human capital investments are

A) different in that the opportunity for economic profit is present for physical capital but not human capital decisions.
B) different in that human capital decisions do not involve future income considerations while physical capital investments do.
C) similar in that non-pecuniary considerations do not influence the choices of utility-maximizing decision makers in either case.
D) similar in that both involve forgoing current income (and consumption) with the objective of increasing one's future income (and consumption).

Question 44

Most of the income of Americans comes from

A) transfer payments.
B) individuals selling their labor services.
C) the ownership of bonds and corporate stocks.
D) the ownership of small businesses.

Question 45

If an individual or family began at age 25 paying funds into a tax-free investment account or pension earning a 7 percent real return, how much would they have to save annually in order for the funds to be worth a million dollars (measured in the purchasing power of today's dollar) when they reach age 65?

A) approximately $5,000 annually
B) approximately $10,000 annually
C) approximately $20,000 annually
D) approximately $50,000 annually

Question 46

Aiden must decide whether or not to go to law school. He knows that he can earn $50,000 per year with his bachelor's degree, but he expects to earn a minimum of $58,000 per year with the law degree. An economist would advise him to

A) take the job that just requires the bachelor's degree.
B) go to law school, but only if he can finish within 3 years.
C) go to law school.
D) consider costs, revenues, and any nonmonetary job considerations he might have also.

Question 47

If the interest rate was 5 percent and an investment project was expected to yield net revenue of $3,000 per year (to be received at year end) for each of the next three years, profit-maximizing decision makers would undertake the investment only as long as it cost less than

A) $7,461.
B) $8,170.
C) $8,652.
D) $9,000.

Question 48

For the past several decades, the percentage of national income in the United States allocated to physical capital (rents, interest, profit) has been approximately

A) 20 percent.
B) 40 percent.
C) 60 percent.
D) 80 percent.

Question 49

For the past several decades, the percentage of national income in the United States allocated to human capital (employees and self-employed workers) has been approximately

A) 20 percent.
B) 40 percent.
C) 60 percent.
D) 80 percent.

Question 50

If an investment project costing $2,700 was expected to yield $1,000 (to be received at year end) for each of the next three years, a profit-maximizing entrepreneur would

A) definitely undertake the project.
B) never undertake the project.
C) undertake the project if the interest rate exceeded 12 percent.
D) undertake the project if the interest rate was 5 percent or less.

Question 51

An investment in human capital will be financially profitable if the present discounted value of the future earnings generated by the investment exceeds the

A) present discounted value of both the direct and indirect costs of the investment.
B) dollar amount of the direct and indirect costs of the investment.
C) present discounted value of only the direct costs of the investment.
D) present discounted value of only the indirect costs of the investment.

Question 52

Olivia must decide whether or not to go to college. She can either continue to work as a waitress and earn $22,000 per year or she can go to school and expect to earn $32,000 per year when she finishes. She should

A) continue to work as a waitress.
B) go to school, but only if she knows she can finish in four years.
C) go to school no matter what.
D) we cannot tell since there may be important nonmonetary considerations that Olivia will take into account.

Question 53

If the interest rate is 8 percent and an investment undertaken and paid for today is expected to yield $3,000 per year (to be received at year end) for each of the next three years, a profit-maximizing decision maker would undertake the investment only as long as the cost remained less than approximately

A) $5,350.
B) $7,731.
C) $8,109.
D) $9,000.

Question 54

At an interest rate of 6 percent, if an investment project was expected to yield $1,000 per year (to be received at year end) for each of the next three years, profit-maximizing decision makers would undertake the project only as long as the cost remained less than

A) $1,000.
B) $2,577.
C) $2,673.
D) $3,000.

Question 55

Which of the following will most directly determine the market price of a business or physical asset?

A) cost of the asset
B) expected future net earnings derived from the asset
C) book value (original purchase price minus depreciation) of the asset
D) age of the asset

Question 56

Which one of the following is least likely to influence the investment choices of decision makers?

A) the pure interest yield
B) the expectation of profit
C) the risk associated with the investment
D) the general level of prices

Question 57

As the present value of the future earnings from owning an asset ____, the market value of the asset ____.

A) decreases; increases
B) increases; decreases
C) decreases; decreases
D) decreases; is uncertain

Question 58

A student entering college wants to assess the value of investing in human capital. To determine whether the investment will be profitable, she should compare the

A) value of her total expected future earnings with the total of her direct and indirect costs of college.
B) present discounted value of future earnings with the total of her direct and indirect costs of her education.
C) present discounted value of her additional future earnings as the result of the college education with the present discounted value of only her direct costs of college.
D) present discounted value of her additional future earnings as the result of the college education with the present discounted value of her direct and indirect costs of college.

Question 59

What are the major sources of economic profit?

A) certainty, monopolistic competition, and inelastic supply.
B) competition, perfect information, and elasticity of market demand.
C) barriers to entry, uncertainty, and entrepreneurial alertness.
D) externalities, inflation, and size of firm.

Question 60

Which of the following is true?

A) Uncertainty accompanies investment decisions.
B) At any given time, there are a virtually infinite number of potential investment projects that might be undertaken by investors.
C) In order to be successful, entrepreneurs must be good at recognizing and undertaking economically beneficial projects.
D) All of the above are correct.

Question 61

If the interest rate is 10 percent, the net present value of $600 to be received two years from now is

A) $495.87.
B) $545.45.
C) $600.
D) $660.

Question 62

At a discount rate of 6 percent, what is the net present value of an investment project expected to yield $1,000 per year (to be received at year end) for the next three years?

A) $3,000
B) $2,829
C) $2,673
D) There is insufficient information to determine whether the project should be undertaken.

Question 63

If the interest rate is 9 percent, the net present value of $1,000 to be received one year from now would be

A) $943.40.
B) $917.43.
C) $1,000.
D) $1,090.

Question 64

If the interest rate is 10 percent, the net present value of $500 to be received one year from now is

A) $413.22.
B) $450.
C) $454.55.
D) $500.

Question 65

At a discount rate of 10 percent, what is the net present value of an investment expected to yield $1,000 per year (to be received at year end) for the next two years?

A) $1,859.41
B) $1,801.23
C) $1,735.54
D) $1,527.78

Question 66

If the interest rate is 5 percent, the net present value of $200 to be received two years from now is

A) $165.29.
B) $181.41.
C) $200.
D) $210.

Question 67

The present value of $1 million to be received 10 years from now will

A) decrease if the interest rate rises.
B) be greater if the funds were going to be received 15 years from now.
C) be greater than $1 million.
D) increase if the interest rate were to rise from 4 percent to 8 percent.

Question 68

Isabella is contemplating investing $10,000 in an investment. It is expected to yield $4,000 at the end of each of the next three years. The interest rate is 5 percent. What is the net present value of the expected revenues from the investment?

A) $8,426
B) $9,947
C) $10,893
D) $12,000

Question 69

Which of the following indicates why the role of vigilant investors is important for the efficient operation of an economy?

A) These investors generally serve on the boards of directors of corporations.
B) These investors tend to buy and sell stocks in a way that provides feedback to management about the quality of its decisions.
C) These investors help allocate capital efficiently among investment projects.
D) Both b and c are true.

Question 70

If Microsoft stock has a constant net return each year, then the value of a share of Microsoft stock is determined by

A) subtracting Microsoft's total costs from its total revenue.
B) multiplying the annual net income by the number of shares.
C) dividing the annual net income from the asset by the interest rate.
D) both a and b above.

Question 71

If the interest rate is 8 percent, the present value of $750 to be received two years from now is

A) $750.
B) $886.10.
C) $643.
D) $738.14.

Question 72

The current worth of future income after it is discounted, to reflect the fact that future dollars are worth less than current dollars, is called

A) the net present value of the income.
B) arbitrage.
C) the inflationary premium.
D) the real interest rate.

Question 73

If the interest rate is 6 percent, the net present value of $100 to be received two years from now is

A) $79.72.
B) $86.
C) $89.
D) $100.

Question 74

If the interest rate is 7 percent, what is the current value of $80 to be received one year from now?

A) $47.05
B) $74.77
C) $85.60
D) $136

Question 75

If the interest rate is 7 percent, what is the present value of $100 received two years from now.

A) $107
B) $114.49
C) $87.34
D) $93.45

Question 76

The net present value of $1,000 received at a time in the future would

A) decline if the $1,000 were received sooner.
B) increase if the delivery date for the $1,000 were set farther into the future.
C) increase if the interest rate rose.
D) increase if the interest rate fell.

Question 77

The procedure used to calculate the present value of future income is called

A) indirect production.
B) investment tax shelter planning.
C) discounting.
D) amortizing.

Question 78

Discounting is a procedure used to

A) determine the present value of income or costs expected in the future.
B) adjust future income for the effects of inflation.
C) adjust the money interest rates for the effects of inflation.
D) compare the value of income after taxes with its value prior to taxes.

Question 79

Which of the following statements is correct?

A) Interest would not exist in a nonmonetary economy.
B) The present value of a future dollar payment is inversely related to both the interest rate and to how far in the future the payment will be received.
C) A "positive rate of time preference" means that an individual would rather save than consume.
D) During an extended inflationary period, the money (or nominal) interest rate will usually be lower than the real rate of interest.

Question 80

Which of the following statements is correct?

A) Interest would not exist in a nonmonetary economy.
B) The present value of a future dollar payment is directly related to the interest rate.
C) The present value of a fixed dollar payment to be received in the future will decline as the length of the time before the payment will be received increases.
D) During an extended inflationary period, the money (or nominal) interest rate will usually be lower than the real rate of interest.