Problems Economics/Finance

Inflation Review

1. The rate of inflation is 5% now, and is expected to remain so for the next five years. What will be the price, 4 years from now, of an item that currently sells for \$100?

2. Measured in today's prices an investment of \$1000 gives returns of \$200 per year for 5 years and an additional lump sum return of \$500 at the end of five years. There is a general inflation rate of 7% and all cash flows are fully responsive to inflation. Write the formulas for the returns that will be received in each of the five years.

3. Considering the situation described in problem 2, is the investment it acceptable? The MARR without considering inflation (real-MARR) is 10%.

4. What if the returns associated with the investment of problem 2 do not change with inflation. The numbers given are in actual dollars. The general inflation rate is 7%. What cash flows do we analyze, and what interest rate do we use?

5. Write the cash flows you would analyze in problem 2 for an after tax analysis. The straight line of depreciation results in an annual depreciation of \$100. The tax rate is 50% for ordinary income and capital gains.