Question

Show your calculations and answer the following questions

- An investment will pay you $120 in one year and $200 in two years. Calculate the present value of these cash flows if the interest rate is 4%.

-Suppose you invest $1000 in an account paying 6% interest per year. What is the balance in the account after 3 years? Calculate how much of this balance corresponds to “interest on interest”

- If Brandon receives 6 percent interest rate on his bank account and the inflation rate is 4 percent. Calculate the real interest rate will he earn.

Answer 1

Payment in one year = $120

Payment in two years = $200

Interest rate (r) = 4% or 0.04

Solution :-

Present value = [payment in one year (1 + r)] + [payment in two years (1 + r)²]

= [$120 (1 + 0.04)] + [$200 (1 + 0.04)²]

= [$120 (1.04)] + [$200 (1.04)²]

= $115.384615384 + [$200 1.0816

= $115.384615384 + $184.9112426 = $300.30