Question

SOLVE BY HAND:

Kevin invested $2000 for 4 years at an annual rate of 20%. Assume there is an annual inflation rate of 4% (first two years) and 6% for (last two years). Currently, a Gucci jacket is worth $2060, and the price is increasing at the rate of inflation every year.

i) Will Kevin be able to purchase/afford the Gucci jacket after 4 years?

ii) If Kevin were to pay tax at a rate of 50%, will he be able to purchase the Gucci jacket at the end of 4 years?

Answer 1

i) Value of 2000 invested for 4 years at 20% = 2000 * (1.20)^4

Value of 2000 after 4 years = 4147.20

Price of Gucci jacket after 4 years = 2060*1.04*1.04*1.06*1.06 =2503.49

Since he will have 4147.20 after 4 years from his investment he can buy the jacket

iI) Pretax return = 20%

Tax Rate = 50%

After Tax return = 20 * 0.5 = 10%

Value of 2000 invested for 4 years = 2000*(1.1)^4

value of 2000 after tax after 4 years = 2928.2

Since he will have 2928.2 after 4 years from his investment he can still buy the jacket