Question 1

At the start of the year,your firm's capital stock equaled $10 million,and at the end of the year it equaled $15 million.The average depreciation rate on your capital stock is 20%.Net investment during the year equaled

Accepted Answer

Using the formula:
End Capital Stock = Beginning Capital Stock + Net Investment - Depreciation
We can rearrange it to get:
Net Investment = End Capital Stock - Beginning Capital Stock + Depreciation
Substituting the given values:
Net Investment = $15 million - $10 million + 20% of $10 million
Net Investment = $5 million + $2 million
Net Investment = $7 million
Therefore, the net investment during the year is $7 million.

Question 2

You are trying to figure out how much capacity to add to your factory.You will increase capacity as long as

Accepted Answer

Adding capacity requires investment in capital, which comes with a user cost. Therefore, it is economically rational to invest in capital only if the expected marginal product of capital is greater than or equal to the user cost of capital.

Question 3

A firm should invest more if Tobin's q

Accepted Answer

Tobin's q is a ratio of a firm's market value to its replacement cost. If Tobin's q is greater than one, it means the market value of the firm is higher than the cost of replacing its assets, which implies that investors see potential for higher profits in the future. Therefore, a firm should invest more in this situation to take advantage of the perceived profitability.

Question 4

At the start of the year,your firm's capital stock equaled $100 million,and at the end of the year it equaled $105 million.The average depreciation rate on your capital stock is 20%.Gross investment during the year equaled

Accepted Answer

The answer of At the start of the year,your firm's...

Question 5

Cummins,Hubbard,and Hassett studied the effects of taxes on investment by

Accepted Answer

The study by Cummins, Hubbard, and Hassett examined what happened to investment when major tax reforms took place. They analyzed data from major tax reforms in the United States, Canada, and six other industrialized countries to explore the impact of taxes on investment. Therefore, option B is the best choice.

Question 6

Calculate the user cost of capital of a machine that costs $5,000 and depreciates at a 25% rate,when the nominal interest rate is 5% and the expected inflation rate is 10%.

Accepted Answer

User cost of capital can be calculated as:
User cost of capital = (Depreciation rate + Interest rate - Inflation rate) x Initial cost of asset

Here, depreciation rate = 25%, interest rate = 5%, inflation rate = 10% and initial cost of asset = $5,000.

User cost of capital = (0.25 + 0.05 - 0.10) x $5,000 = $1,000

Therefore, the user cost of capital is $1,000. Hence, the correct choice is C.

Question 7

If the rate of depreciation increases,then user cost ________ and the desired capital stock ________.

Accepted Answer

User cost is the sum of economic depreciation and the opportunity cost of the funds used to purchase and maintain the capital good. Therefore, if the rate of depreciation increases, the user cost of the capital stock will increase. As a result, firms will desire a smaller capital stock, and thus the desired capital stock will fall.

Question 8

A technological improvement will

Accepted Answer

A technological improvement makes capital more productive, leading to an increase in the desired capital stock as firms will want to invest more to take advantage of the higher productivity.

Question 9

Calculate the tax-adjusted user cost of capital of a machine that costs $10,000 and depreciates at a rate of 10%,when the real interest rate is 3% and the tax rate on revenue is 5%.

Accepted Answer

The formula to calculate tax-adjusted user cost of capital is:

Tax-adjusted user cost of capital = (Real interest rate + Depreciation rate)*(1-Tax rate on revenue)*Cost of the asset.

Substituting the given values we get,

Tax-adjusted user cost of capital = (0.03 + 0.1)*(1-0.05)*$10,000 = $1,368

Therefore, the tax-adjusted user cost of capital of the machine is $1,368.

Question 10

Tobin's q is equal to

Accepted Answer

Tobin's q is a ratio used to determine if an asset is overvalued or undervalued. It is calculated by dividing the market value of a company's assets by their replacement cost. Therefore, the correct choice is A.

Question 11

Suppose your company is in equilibrium,with its capital stock at its desired level.A permanent decline in the expected real interest rate now has what effect on your desired capital stock?

Accepted Answer

A permanent decline in the expected real interest rate reduces the user cost of capital, making investment in capital more attractive. This leads to an increase in the desired capital stock as firms find it cheaper to finance capital purchases or projects.

Question 12

If the stock market value of a firm is $10 million and the firm owns $15 million of capital,then Tobin's q equals

Accepted Answer

Tobin's q is the ratio of the market value of a firm to its replacement cost, which is equivalent to the value of its capital. Therefore, Tobin's q = (Market value of the firm) / (Value of the firm's capital) = $10 million / $15 million = 2/3.

Question 13

What is the difference between gross investment and net investment?

Accepted Answer

Gross investment refers to the total amount invested in capital goods, while net investment takes into account the depreciation of existing capital. Net investment is simply the difference between gross investment and the amount of capital that has worn out or become obsolete during the year (i.e. depreciation). Therefore, choice D is correct as it states that net investment = gross investment minus depreciation.

Question 14

Cummins,Hubbard,and Hassett found that investment responded to a tax change that affected the user cost of capital,with an elasticity of

Accepted Answer

The given elasticity value of -0.66 indicates that a 1% increase in user cost of capital reduces investment by 0.66%. This suggests a relatively strong response of investment to tax changes affecting the user cost of capital.

Question 15

When a company must consider taxes in determining investment,its desired capital stock is chosen such that

Accepted Answer

The company must consider taxes in determining investment, and the desired capital stock is chosen such that MPKf = uc/(1-t). This is because the after-tax marginal product of capital (MPKf) must equal the after-tax user cost of capital (uc/(1-t)). This ensures that the company maximizes its after-tax profits by investing up to the point where the after-tax MPKf equals the after-tax user cost of capital.

Question 16

Your firm has capital stock of $10 million and a depreciation rate of 15%.Gross investment is $3 million.How much is net investment?

Accepted Answer

Net investment is calculated by subtracting depreciation from gross investment. Depreciation is 15% of $10 million, which is $1.5 million. Therefore, net investment is $3 million (gross investment) - $1.5 million (depreciation) = $1.5 million.

Question 17

The relationship between stock prices and firms' investments in physical capital is captured by what theory?

Accepted Answer

The relationship between stock prices and firms' investments in physical capital is captured by q theory. According to q theory, firms invest when the market value of their physical capital exceeds the cost of replacing it. This market value is represented by the ratio of the stock price to the replacement cost of the firm's physical capital, which is called the "q" ratio. When the q ratio is high, firms are more likely to invest in physical capital because they can generate a higher return on their investment.

Question 18

The desired level of the capital stock will increase if the

Accepted Answer

The desired level of capital stock depends on the expected future marginal product of capital. If it is expected to increase, then businesses will want to invest more in capital to take advantage of the higher returns. The other options (A, C, and D) all relate to the cost of capital, which will affect the willingness of businesses to invest, but do not directly affect the desired level of the capital stock.

Question 19

An increase in the expected real interest rate will

Accepted Answer

An increase in the expected real interest rate will increase the cost of borrowing money for investment, making it less attractive to invest. Therefore, the desired capital stock will decrease. This is the opposite effect of a decrease in corporate taxes, which lowers the cost of investment and increases the desired capital stock.

Question 20

Suppose your company is in equilibrium,with its capital stock at its desired level.A permanent increase in the depreciation rate now has what effect on your desired capital stock?

Accepted Answer

A permanent increase in the depreciation rate raises the user cost of capital, which is the cost of using an additional unit of capital. This, in turn, reduces the desired capital stock level, as the cost of holding capital increases.

Quiz 4: Consumption, Saving, and Investment