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Prelims ASC Reviewer Finmar
Financial Markets (Pontifical and Royal University of Santo Tomas, The Catholic
University of the Philippines)
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CA51021: Financial Markets
Preliminary Exams Reviewer
PART I: THEORIES
1. Money markets trade securities that
I. have a maturity of one year or less.
II. must be secured by the government.
III. have a low risk of principal loss.
a.
b.
c.
d.
I and II only
I and III only
II and III only
All of the above
2. Which of the following instruments are used for capital market trade?
a. Derivatives
b. Negotiable CDs
c. Treasury bonds
d. Repurchase Agreement
3. A public record attached to a property's title that grants the financial institution the right to
sell the property if the mortgage borrower defaults.
a. Collateral
b. Lien
c. Proof of deposit
d. None of the above
4. The buyer may return the mortgage to the selling financial institution under certain
conditions.
a. Mortgage with collateral
b. Mortgage without recourse
c. Mortgage with conditional sale
d. Mortgage with recourse
5. An agreement between two parties to exchange a standard amount of an asset at a fixed
price on a future date. Its payoffs are linked to other, previously issued securities or indices.
a. Derivatives
b. Negotiable CDs
c. Treasury bonds
d. Repurchase Agreement
6. In this form of efficiency, the use of price trends and patterns seen on charts are deemed
useless.
a. Weak form efficiency
b. Semi-strong form efficiency
c. Strong form efficiency
d. All of the above
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7. The interest rate on loans made to depository institutions by Federal Reserve Banks.
a. Market Rate
b. Stated Rate
c. Discount Rate
d. Coupon Rate
8. This is used to compute the returns on money market instruments that pay only at maturity.
a. Bond Equivalent Yield
b. Effective Annual Return
c. Discount Yield
d. Single Payment Yield
9. These markets save economic agents the time and money it would take to find customers or
sellers on their own.
a. Primary markets
b. Secondary markets
c. Money markets
d. Capital markets
10. Companies who issue securities and stocks are involved in the transfer of funds in a
secondary market.
a. True
b. False
11. The difference between long term government issued debt security and that of corporate
issued is the premium for default and liquidity.
a. True
b. False
12. It is a premium present both on short-term and long-term government or corporate issued
debt security.
a. Default risk premium
b. Liquidity premium
c. Inflation premium
d. Maturity premium
13. The annual percentage yield, also known as simple interest, considers the effect of
compounding.
a. True
b. False
14. The actual yield of risk-free debt security is represented by the real risk-free rate of interest.
a. True
b. False
15. Underwriting is the process of offering shares of a private corporation to the public in a new
stock issuance.
a. True
b. False
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16. A fall in interest rates results in
a. An equilibrium demand for funds
b. Zero quantity demand for funds
c. Lower quantity demand for funds
d. Higher quantity demand for funds
17. The following are issues in Fiscal Policy, except:
a. Future Reversal
b. Built-in Stabilizers
c. Repurchase Agreements
d. Administrative Lag
18. When the inflation rate is significantly high, the nominal risk-free rate shall be computed
using the cross-term format.
a. True
b. False
19. Statement I: Bonds and stock instruments with maturities of more than a year are traded in
capital markets.
Statement II: A 60-day Treasury bill is an example of a security traded in a money market.
a. Statement I is true; Statement II is false.
b. Both statements are true.
c. Statement I is false; Statement I is true.
d. Both statements are false.
20. Which of the following statements is CORRECT with respect to the determinants of interest
rates?
a. Default risk premium is added to compensate for the decline in purchasing power from
foregoing current consumption
b. Inflation risk premium is added to compensate for the risk that the borrower will not be
able to pay its obligation as it falls due.
c. The real risk-free rate does not include inflation.
d. None of the above
21. Monetary expansion has an inverse effect on equilibrium interest rates.
a. True
b. False
22. This refers to the normal type of yield curve
a. Flat yield curve
b. Upward-sloping yield curve
c. Downward-sloping yield curve
23. Yield rates are virtually unaffected by the term to maturity. MRP is also 0.
a. Upward-sloping yield curve
b. Downward-sloping yield curve
c. Flat yield curve
24. Statement I: In a secondary market transaction, the proceeds from the sale of the securities
will go to the issuing corporation.
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Statement II: Initial public offerings (IPOs) is an example of a secondary market transaction.
a. Statement I is true; Statement II is false
b. Statement I is false; Statement II is true
c. Both Statements I and II are true
d. Both Statements I and II are false
25. Liquidity risk premium is added to the nominal rate to compensate for the risk of not being
able to convert the securities immediately to cash and sell at its fair market value.
a. True
b. False
26. If households are not willing to set aside more money in exchange for future returns, ceteris
paribus, then
a. The equilibrium interest rate will remain unchanged.
b. There will only be a movement along the supply curve.
c. The supply curve will shift to the right.
d. The supply curve will shift to the left.
27. Statement I: If the special provisions or covenants in the security benefits the borrower of
the security such as a call option, it decreases the interest rate.
Statement II: If the special provisions or covenants in the security benefits the investor of the
security such as convertibility, it decreases the interest rate.
a. Statement I is true; statement II is false.
b. Statement I is false; statement II is true.
c. Both statements are true.
d. Both statements are false.
28. Dividend yield is equal to the annual dividend divided by the current stock price.
a. True
b. False
29. Which money market participants have pooled funds and use these to purchase large
amounts of money market securities and sell them based on the instrument's underlying
value?
a. Commercial Banks
b. Money Market Mutual Funds
c. Brokers and Dealers
d. Corporations
30. The securities in a money market are denominated in high amounts, frequently in millions, in
order to make the most of the transaction expenses that would be incurred, given that the
returns are usually low. Which basic characteristic of a money market is being described?
a. Low Default Risk
b. Sold in Large Denominations
c. Short term Maturity
d. Long term Maturity
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PART II: PROBLEM SOLVING
1. The real risk-free rate is 2.4%. Inflation is expected to be 1.8% this year, 3% for 4 years, and
6% thereafter. The maturity risk premium is estimated to be 0.04%(t -1), where t = number of
years to maturity. What is the yield on a 12-year Treasury note?
a. 7.49%
b. 7.65%
c. 4.65%
d. 4.79%
2. Today, 5-year Treasury securities have an interest rate of 4.4% and the market expects that 5
years from now, 1-year Treasury securities will have an interest rate of 8.75%. Assuming the
pure expectations theory is correct, what would be the interest rate of 6-year treasury bills
today?
a. 4.75%
b. 6.33%
c. 5.11%
d. 7.23%
3. An analyst is evaluating securities in a developing nation where the inflation rate is very high.
As a result, the analyst has been warned not to ignore the cross-product between the real rate
and inflation. A 10-year security with no maturity, default, or liquidity risk has a yield of 21%. If
the real risk-free rate is 7%, what average rate of inflation is expected in this country over the
next 8 years?
a. 29.47%
b. 18.30%
c. 27.49%
d. 13.08%
4. You bought a $800,000 treasury bill for $704,000. What is the discount yield on the bill if it will
mature in 350 days?
a. 12.34%
b. 12.71%
c. 0.79%
d. 12.84%
5. A negotiable certificate of deposit (NCD) has a face value of $950,000. Given that the interest
rate is 3.5% with a maturity period of 150 days, what is the Maturity Value of the certificate?
a. $964,778
b. $963,854
c. $969,396
d. $966,625
6. Achmed and Peanut want to purchase a house for $3,000,000 using a 12-year mortgage
obtained from Dunham Bank. The mortgage rate offered by the bank is 12% per year and
requires a 10% down payment. Calculate the monthly payments on this mortgage.
a. $33,333.33
b. $26,229.22
c. $35,462.32
d. $27,272.73
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7. LeBron James, a professional basketball player, plans to buy a house worth $50,000,000 using
a 23-year mortgage. The mortgage rate offered to him was 6% annually. Mr. James decides
to make a $10,000,000 down payment to forego the purchase of the PMI at closing. If Lebron
decides to pay 3,251,139.39 annually, at year 18, how much of the loan balance would he still
have to pay?
a. $15,986,906.73
b. $18,149,100.11
c. $11,265,541.26
d. $13,694,981.74
8. What is the bond equivalent yield on fed funds that are 3 days from maturity and have a quoted
nominal yield of 0.25 percent?
a. 0.23%
b. 0.25%
c. 0.30%
d. 0.20%
9. Short term treasury securities are currently yielding 4.5%. Your broker has given you the
following estimates of current interest premiums:
Inflation premium
1.75%
Liquidity premium
1.45%
Maturity risk premium
1.00%
On the basis of these data, calculate the real risk-free rate of return.
a. 3%
b. 1.75%%
c. 1.25%
d. 2.75%
10. 5-year Treasury securities yield 5.5%. The inflation premium (IP) is 1.9%, and the maturity
risk premium (MRP) on 5-year T-bonds is 0.4%. There is no liquidity premium on these bonds.
What is the nominal risk-free rate for a 5-year investment?
a. 3.20%
b. 0.0320%
c. 5.10%
d. 6.75%
11. Benedict has invested all his 1,000,000 savings in treasury bills. He wants you to calculate
the bond equivalent yield and effective annual return on the treasury bills he bought at 99.4%
of its face value, 35 days maturity. Calculate for its BEY and EAR.
a. BEY = 6.35%; EAR = 6.50%
b. BEY = 6.29%; EAR = 6.48%
c. BEY = 6.20%; EAR = 6.37%
d. BEY = 6.25%; EAR = 6.42%
12. Brian owns a 69-day maturity money market security that has a bond equivalent yield of
1.43%. The EAR of this security is?
a. 1.44%
b. 1.50%
c. 1.34%
d. 1.01%
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13. Ben purchased a $150,000 house and paid $7,000 as down payment. She obtains a fixedrate mortgage where the annual interest rate is 5.96 percent and there are 360 monthly
payments. What is the monthly payment to the nearest peso?
a. $8,522.80
b. $409.21
c. $853.68
d. $397.22
14. Ian bought a skypod themed house for P 32,000,000.00. Assuming he paid a 25% down
payment at closing, he financed the rest by taking out a 20-year mortgage with a 5% interest
rate from his depository bank and decided he would pay for the amortization yearly at P
1,925,822.09 a year. How much is his loan balance at the end of year 15 and year 20?
a. Year 15 = 8,337,802, Year 20 = 1,834,116
b. Year 15 = 4,200,733, Year 20 = 13,998,669
c. Year 15 = 225,455, Year 20 = 0
d. None of the Above 8.337.802 & 0
15. You can buy commercial paper from a corporation for P575,000. The paper has a face value
of P600,000 and is 62 days from maturity. Calculate the discount yield and bond equivalent
yield on the commercial paper.
a. DY = 25.23%; BEY = 25.60%
b. DY = 24.19%; BEY = 25.60%
c. DY = 25.60%; BEY = 24.19%
d. DY = 24.53%; BEY = 24.69%
16. A company’s 5-year bonds are yielding 8.25% per year. Treasury bonds with the same
maturity are yielding 6.8% per year, and the real risk-free rate (r*) is 3.15%. The average
inflation premium is 3.2%; and the maturity risk premium is 2.3%. If the liquidity premium is
1%, what is the default risk premium on the corporate bonds?
a. 0.45%
b. 2.45%
c. 3.00%
d. 0.55%
17. A one-year corporate bond that will mature in 5 years has a yield of 4.5%. It expects its
inflation to be at 3% in the first year, and 4% in the succeeding years. Assuming that the
expectations theory holds, the real risk-free rate of 2.5% remains to be constant and the
liquidity risk premium and default risk premium is at 0.5% & 2% respectively. What is the
yield of the 3-year corporate bond?
a. 6.17%
b. 8.67%
c. 6.8%
d. 8.17%
18. Lian Gabriel, plans to buy a house worth $25,000,000 using a 10-year mortgage. The
mortgage rate offered to him was 5% annually. Lian Gabriel decides to make a 20% down
payment to forego the purchase of the PMI at closing. If Lebron decides to pay PHP
2,590,091.50, at year 6, how much of the loan balance would Lian still have to pay?
a. Php 9,184,336.26
b. Php 11,213,740.72
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c. Php 2,029,404.46
d. Php 7,053,461.57
19. Patrick owns a 72-day maturity money market security that has a bond equivalent yield of
1.48%. What is the EAR of this security?
a. 1.46%
b. 1.52%
c. 1.49%
d. 1.37%
20. Given an economy’s marginal propensity to consume of 0.80 and the real GDP being
P250,000,000, which is at equilibrium. If the potential GDP is P320,000,000, how much
increase in government spending and decrease in taxes is necessary?
a. 14,000,000 and 17,500,000
b. 17,500,000 and 14,000,000
c. 13,000,000 and 18,500,000
d. 18,500,000 and 17,500,000
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ANSWER KEY
PART I: THEORIES
1. B
7. C
13. A
19. B
25. A
2. C
8. D
14. A
20. C
26. D
3. B
9. B
15. B
21. A
27. B
4. D
10. B
16. D
22. B
28. A
5. A
11. A
17. C
23. C
29. B
6. A
12. C
18. A
24. D
30. B
PART II: PROBLEM SOLVING
1. A
5. B
9. D
13. C
17. B
2. C
6. C
10. C
14. D
18. A
3. D
7. D
11. B
15. B
19. C
4. A
8. B
12. A
16. A
20. A
Solutions:
1. The real risk-free rate is 2.4%. Inflation is expected to be 1.8% this year, 3% for 4 years, and
6% thereafter. The maturity risk premium is estimated to be 0.04%(t -1), where t = number of
years to maturity. What is the yield on a 12-year Treasury note?
a. 7.49%
b. 7.65%
c. 4.65%
d. 4.79%
r* = 2.40%
IP12 = 1.8% + 3%(4) + 6%(7) = 4.65%
12
MRP = 0.04%(12 – 1) = 0.44%
r15 = r* + IP + MRP
r15 = 2.40% + 4.65% + 0.44%
r15 = 7.49%
2. Today, 5-year Treasury securities have an interest rate of 4.4% and the market expects that 5
years from now, 1-year Treasury securities will have an interest rate of 8.75%. Assuming the
pure expectations theory is correct, what would be the interest rate of 6-year treasury bills
today?
a. 4.75%
b. 6.33%
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c. 5.11%
d. 7.23%
1r5
= 4.4%
8.75%
1r6 = ?
5r1 =
(1+ r)6
(1+ r)6
1+r
r
= (1.0440)5(1.0875)1
= 1.3488
= 1.0511
= 0.0511 or 5.11%
3. An analyst is evaluating securities in a developing nation where the inflation rate is very high.
As a result, the analyst has been warned not to ignore the cross-product between the real rate
and inflation. A 10-year security with no maturity, default, or liquidity risk has a yield of 21%. If
the real risk-free rate is 7%, what average rate of inflation is expected in this country over the
next 8 years?
a. 29.47%
b. 18.30%
c. 27.49%
d. 13.08%
r = (1 + r*) (1 + I) - 1
1% = (1.07) (1+ I) - 1
1.21/1.07 = 1 + I
1.1308 - 1 = I
I = 0.1308 or 13.08%
4. You bought a $800,000 treasury bill for $704,000. What is the discount yield on the bill if it will
mature in 350 days?
a. 12.34%
b. 12.71%
c. 0.79%
d. 12.84%
id = (Pf – P0) x 360
Pf
n
id = (800,000 – 704,000) x 360
800,000
350
id = (96,000) x 1.028
800,000
id = 0.12 x 1.028
id = 0.1234 or 12.34%
5. A negotiable certificate of deposit (NCD) has a face value of $950,000. Given that the interest
rate is 3.5% with a maturity period of 150 days, what is the Maturity Value of the certificate?
a. $964,778
b. $963,854
c. $969,396
d. $966,625
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MV = FV x [1 + (r x n/360)]
MV = 950,000 x [1 + (3.5% x 150/360)]
MV = 950,000 x (1 + 0.014583*)
MV = 950,000 x 1.014583
MV = 963,854
6. Achmed and Peanut want to purchase a house for $3,000,000 using a 12-year mortgage
obtained from Dunham Bank. The mortgage rate offered by the bank is 12% per year and
requires a 10% down payment. Calculate the monthly payments on this mortgage.
a. $33,333.33
b. $26,229.22
c. $35,462.32
d. $27,272.73
PMTmonthly = P [ r(1 + r)^n ] / [ (1 + r)^n – 1]
PMTmonthly = 2,700,000 [ 1%(1+1%*^144] / [ (1 + 1%)^144-1]
PMTmonthly = 2,700,000 [ 1%(1.01)^144] / (1.01^144-1)
PMTmonthly = 2,700,000 [ 1%(4.1906) / (4.1906 – 1)]
PMTmonthly = 2,700,000 ( 0.041906 / 3.1906)
PMTmonthly = 2,700,000 ( 0.0131342)
PMTmonthly = 35,462.34 (difference due to rounding-off)
7. LeBron James, a professional basketball player, plans to buy a house worth $50,000,000 using
a 23-year mortgage. The mortgage rate offered to him was 6% annually. Mr. James decides
to make a $10,000,000 down payment to forego the purchase of the PMI at closing. If Lebron
decides to pay 3,251,139.39 annually, at year 18, how much of the loan balance would he still
have to pay?
a. $15,986,906.73
b. $18,149,100.11
c. $11,265,541.26
d. $13,694,981.74
Refer to MS Excel screenshot of amortization table: *NOTE that interest is computed by
multiplying the interest rate and the beginning loan balance for that year.
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8. What is the bond equivalent yield on fed funds that are 3 days from maturity and have a quoted
nominal yield of 0.25 percent?
a. 0.23%
b. 0.25%
c. 0.30%
d. 0.20%
9. Short term treasury securities are currently yielding 4.5%. Your broker has given you the
following estimates of current interest premiums:
Inflation premium
1.75%
Liquidity premium
1.45%
Maturity risk premium
1.00%
On the basis of these data, calculate the real risk-free rate of return.
a. 3%
b. 1.75%%
c. 1.25%
d. 2.75%
Since these are short term treasury securities, LP and MRP are disregarded.
r = r* + IP
4.5% = r* + 1.75%
r* = 2.75%
10. 5-year Treasury securities yield 5.5%. The inflation premium (IP) is 1.9%, and the maturity
risk premium (MRP) on 5-year T-bonds is 0.4%. There is no liquidity premium on these bonds.
What is the nominal risk-free rate for a 5-year investment?
a. 3.20%
b. 0.0320%
c. 5.10%
d. 6.75%
r rf = r* + IP
r = r* + IP + MRP
5.5% = r* + 1.9% + 0.4%
r* = 3.2%
r rf = 3.2% + 1.9%
r rf = 5.10%
11. Benedict has invested all his 1,000,000 savings in treasury bills. He wants you to calculate
the bond equivalent yield and effective annual return on the treasury bills he bought at 99.4%
of its face value, 35 days maturity. Calculate for its BEY and EAR.
a. BEY = 6.35%; EAR = 6.50%
b. BEY = 6.29%; EAR = 6.48%
c. BEY = 6.20%; EAR = 6.37%
d. BEY = 6.25%; EAR = 6.42%
BEY = (Pf - Po) * 365
Po
n
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BEY = (1,000,000 - 994,000) * 365
994,000
35
BEY = 0.062949 or 6.29%
ibe )365/n - 1
365
n
EAR = (1 + 0.062949)365/35 - 1
365
35
EAR = 0.06477 or 6.48%
EAR = (1 +
12. Brian owns a 69-day maturity money market security that has a bond equivalent yield of
1.43%. The EAR of this security is?
a. 1.44%
b. 1.50%
c. 1.34%
d. 1.01%
EAR = (1 + 0.0143)365/69 - 1
365
69
EAR = 1.4383 or 1.44%
13. Ben purchased a $150,000 house and paid $7,000 as down payment. She obtains a fixedrate mortgage where the annual interest rate is 5.96 percent and there are 360 monthly
payments. What is the monthly payment to the nearest peso?
a. $8,522.80
b. $409.21
c. $853.68
d. $397.22
Note: A negative sign was placed to the Pv to make the answer a positive value.
14. Ian bought a skypod themed house for P 32,000,000.00. Assuming he paid a 25% down
payment at closing, he financed the rest by taking out a 20-year mortgage with a 5% interest
rate from his depository bank and decided he would pay for the amortization yearly at P
1,925,822.09 a year. How much is his loan balance at the end of year 15 and year 20?
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a.
b.
c.
d.
Year 15 = 8,337,802, Year 20 = 1,834,116
Year 15 = 4,200,733, Year 20 = 13,998,669
Year 15 = 225,455, Year 20 = 0
None of the Above
Since year 20 is the last year to pay, the ending balance will be 0.
Therefore, none of the above is the answer.
15. You can buy commercial paper from a corporation for P575,000. The paper has a face value
of P600,000 and is 62 days from maturity. Calculate the discount yield and bond equivalent
yield on the commercial paper.
a. DY = 25.23%; BEY = 25.60%
b. DY = 24.19%; BEY = 25.60%
c. DY = 25.60%; BEY = 24.19%
d. DY = 24.53%; BEY = 24.69%
DY = (Pf - Po) * 360
Pf
n
DY = (600,000 - 575,000) * 360
600,000
62
DY = 24.19%
BEY = (Pf - Po) * 365
Po
n
BEY = (600,000 - 575,000) * 365
575,000
62
BEY = 25.60%
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16. A company’s 5-year bonds are yielding 8.25% per year. Treasury bonds with the same
maturity are yielding 6.8% per year, and the real risk-free rate (r*) is 3.15%. The average
inflation premium is 3.2%; and the maturity risk premium is 2.3%. If the liquidity premium is
1%, what is the default risk premium on the corporate bonds?
a. 0.45%
a. 2.45%
b. 3.00%
c. 0.55%
RC₅= r*+IP+LP+DRP+MRP
RT₅= r*+IP+LP+DRP+MRP
*There is no LP and DRP in treasury bills.
Solution
RC₅ = 3.15% + 3.2% + DRP + 1% + 2.3%
RT₅ = 3.15% + 3.2% + 0 + 0 + 2.3%
8.25%-6.8% = 1%+ DRP
1.45%= 1% + DRP
DRP = 0.45%
17. A one-year corporate bond that will mature in 5 years has a yield of 4.5%. It expects its
inflation to be at 3% in the first year, and 4% in the succeeding years. Assuming that the
expectations theory holds, the real risk-free rate of 2.5% remains to be constant and the
liquidity risk premium and default risk premium is at 0.5% & 2% respectively. What is the
yield of the 3-year corporate bond?
a. 6.17%
b. 8.67%
c. 6.8%
d. 8.17%
RC₃ = r*+IP+LP+DRP
RC₃ = 2.5%+3.67%+0.5%+2%
RC₃ = 8.67%
IP₃ = (3%+4%+4%)/3
IP₃ = 3.67
18. Lian Gabriel, plans to buy a house worth $25,000,000 using a 10-year mortgage. The
mortgage rate offered to him was 5% annually. Lian Gabriel decides to make a 20% down
payment to forego the purchase of the PMI at closing. If Lebron decides to pay PHP
2,590,091.50, at year 6, how much of the loan balance would Lian still have to pay?
a. Php 9,184,336.26
b. Php 11,213,740.72
c. Php 2,029,404.46
d. Php 7,053,461.57
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19. Patrick owns a 72-day maturity money market security that has a bond equivalent yield of
1.48%. What is the EAR of this security?
a. 1.46%
b. 1.52%
c. 1.49%
d. 1.37%
EAR = (1 + 0.0148)365/72 - 1
365
72
EAR = 1.4888 or 1.49%
20. Given an economy’s marginal propensity to consume of 0.80 and the real GDP being
P250,000,000, which is at equilibrium. If the potential GDP is P320,000,000, how much
increase in government spending and decrease in taxes is necessary?
a. 14,000,000 and 17,500,000
b. 17,500,000 and 14,000,000
c. 13,000,000 and 18,500,000
d. 18,500,000 and 17,500,000
Multiplier effect = 1 / (1 - MPC) = 1 / (1 - 0.80) = 5
Increase in Government spending needed = (320M - 250M) / 5 = 14M
Decrease in Taxes needed = (320M - 250M) / (5 * 0.80) = 17.5M
PREPARED BY:
Canonizado, Marella, L.
Carmelo, Therese Isabel Angela, G.
Dizon, Catthlynn Jhune I.
Emeterio, Benedict Brian F.
Gicana, Lara Justine D.
Hilario, Jen Margaret B.
Sanchez, Gabriel S.
Zuniga, Winona Mae B.
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