Chapter 20 Answer To Questions

  1. A balance sheet is an accounting statement that measures the value of assets and liabilities held at a particular point in time.

    2. Due to the availability of credit, assets are not always equal to liabilities for an individual household. In the household sector as whole, assets are not always equal to liabilities. For the economy as whole, assets are equal to liabilities.

  2. Households and firms make financial decisions with an effort to maximize utility and achieve desired portfolio balances. If there are external changes, households and firms readjust their portfolio to deal with those changes. Any decisions households or firms make will affect other sectors of the economy.
  3. Interest rates and income changes will affect spending. To what extent each change affects spending depends on the item or items an individual plans to purchase.
  4. Firms, in the process of investing and operating on a day-to-day basis, experience periods when expenditures exceed receipts. As a result, the business sector accumulates financial liabilities. In such a situation, the household sector must be an accumulator of financial assets.
  5. A. The household sector will spend and save more, the higher the income.
  1. The more wealth, the more spending and saving by the household sector.
  2. The higher the interest rate, the lower investment expenditure by the business sector. Also, the higher the interest rate, the lower investment expenditure by the business sector.
  3. If capacity utilization increases, so will business spending.
  4. A change in expectations can increase or decrease household and business spending and saving.
  5. Depending on the monetary7 policy, household and business spending and savings can increase or decrease.
  1. Depreciation is when an asset’s value decreases. Net investment is gross investment minus depreciation.

    2. Corporate financing gap is the increase in a firm’s liabilities, which is equal to the increase in assets held minus retained earnings.

  2. Money is a financial asset.
  3. Some of the factors that determine whether a firm chooses internal or external financing are 1) the particular type of expenditures being financed, 2) the current financial environment and expectations about the future environment, 3) a firm’s financial structure, and 4) the tax laws.

    4. The leverage ratio is the ratio of debt to equity on a firm’s balance sheet. The higher the ratio, the more severe the borrowing constraint.

  4. The stock balance sheet identity is total assets = total liabilities plus net worth. The equation for flows is change in total assets = change in total liabilities + change in net worth.

    5. Demand for real assets can change if there is a change in household disposable income, household wealth or net worth, the yield or return on real assets, and the market interest rate on financial assets.

  5. Firms produce output at a point where marginal revenue is equal to marginal cost because at tha point, they (firms) are not foregoing any additional possible profits. Producing a a higher point would cause marginal cost to be greater than marginal revenue.
  6. Most college students do face borrowing constraints. Since college students usually don’t make that much money nor do they own real or financial assets, it is hard for them to seem credit worthy.
  7. Interest rates play a big part in whether or not someone will purchase a new car. If both interest rates and my income is going up, my decision to buy a new car will be based on how much I need the car and by how much interest rates are increasing.
  8. Purchases of nondurable goods don’t show up on a balance sheet because nondurable goods are a form of temporary assets. After using up any nondurable good, it ceases to be an asset.
  9. Net revenue for a firm is receipts minus expenditures.
  10. Risk-averse investors will acquire risky assets. If these investors were not to acquire risky assets, they would be giving up profit opportunities. Investors diversify their portfolios so that they can acquire risky assets while at the same holding relatively safe assets and retaining a safe financial position.
  11. Yes, a firm would use short-term debt to finance long-term capital expenditures.
  12. Real assets = $165500

    13. Financial assets = $12500

    Total assets = $178000

  13. Total liabilities = $130000

    14. Net worth = $48000

  14. Net revenue = $12500
  15. 0%
  16. 50%