BE 301 EXAM UPDATED ACTUAL QUESTIONS AND
CORRECT ANSWERS
Question:
An individual's value for a good or service
is the
a. the amount of money he or she used to
pay for a good.
b. the amount of money he or she is willing
to pay for it.
c. the amount of money he or she has to
spend on goods.
d. none of the above.
Answer:
B. the amount of money he or she is willing to pay for it
Question:
The biggest advantage of capitalism is that
a. It generates equality.
b. Prices assist in moving assets from highvalue
to low-value uses.
c. It is fair.
d. It creates wealth by letting a person
follow his or her own self-interest.
Answer:
D. it creates wealth by letting a person follow his or her own self-interest
Question:
2-1 Airline Delays
How will commercial airlines respond to the
threat of new $27,500 fines for keeping passengers
on the tarmac for more than 3 hours? What
inefficiency will this create?
Answer:
Carriers say that to avoid those fines, they will aggressively cancel flights before
and during storms even if the bad weather never materializes. The threat could
foreshadow significant changes in air travel, making it even less reliable for
millions of road warriors and vacationers. By canceling flights, it could take days
for all travelers to get home when storms strike.
Question:
I recently sold my used car. If no new production
occurred for this transaction, how could it have
created value?
Answer:
,The value of my willingness-to-sell was less than the buyer's willingness-to-pay.
Any transaction price between these allows for a voluntary exchange in which we
both benefit. Since we are both
better off, value was created.
Question:
The U.S. government subsidizes flood insurance
because those who want to buy it live in the flood
plain and cannot get it at reasonable rates. What
inefficiency does this create?
Answer:
Subsidies are like taxes in this case. Taxation will keep some efficient transactions
from being
consummated because potential transactions where the difference in buyer and
seller valuation is
positive will no longer cover the amount of the tax to be paid. This prevents the
asset from moving to
its highest valued use. With a subsidy, transactions in which the assets moves from
a higher valued
use to a lower valued use can be consummated so long as the difference is less
than the amount of the
subsidy. This moves the asset to a lower valued use. With flood insurance worth an
expected
$20,000, homeowners would be willing to spend $120,000 to build a house that
they value at only
$100,000. Wealth is destroyed.
Question:
An elderly physician has built up his own practice
into a quite valuable business. Now that
he is thinking of retiring, he wants to take on a
partner to learn the business and eventually buy
the practice in three years. Her compensation
will be a salary plus 25% of the profits if they
are below the historical average and 50% for
any increase above the historical average. The
eventual purchase price for the practice will be
5 times the average profits over the three years.
Discuss the efficiency aspects of such a contract.
Are the incentives of the buyer and seller
aligned?
Answer:
There are a few points:
• Overlapping tenure for the retiring and new physicians tends to increase the
transfer of
practice specific knowledge.
• Profit sharing with the new physician increases her incentives to maximize profits.
• However, since the sale price is a multiple of the profits during this 3 year
, 'probation' the
new physician has an incentive to shirk to keep the profits low. It might have been
better to
use a multiple of profits from the period before she began this probation.
Question:
When Kraft recently bid $16.7 billion for Cadbury,
Cadbury's market value rose, but Kraft's
market value fell by more. What does this tell
you about the value-creating potential of the
deal?
Answer:
It means that Kraft's shareholders, and potential shareholders, think that Kraft's
profits will fall. This
would be the case if Kraft's $16.7 billion bid is greater than the present value of the
expected future
profits from the Cadbury unit. Essentially, the combined market value of the firms
separately is
greater than the market value of the firms together. The market thinks that
combining these assets
will destroy value.
Question:
Two similar surgeries, breast reconstruction and
breast augmentation, have different prices. Breast
augmentation is cosmetic surgery not covered by
health insurance. Patients who want the surgery
must pay for it themselves. Breast reconstruction
following
breast removal due to cancer is covered by
insurance. The price for one of the surgeries has
increased
by about 10% each year since 1995 while
the other has increased by only 2%per year.Which
of the surgeries has the lower inflation rate? Why?
Answer:
Market pressure comes from two sources: consumers who can choose not to
purchase, and
competitors who can offer lower prices. Breast augmentation is subject to both of
these forces, and
thus has a lower price, while breast reconstruction is covered by insurance where
the consumer
pressure is weaker.
Question:
CORRECT ANSWERS
Question:
An individual's value for a good or service
is the
a. the amount of money he or she used to
pay for a good.
b. the amount of money he or she is willing
to pay for it.
c. the amount of money he or she has to
spend on goods.
d. none of the above.
Answer:
B. the amount of money he or she is willing to pay for it
Question:
The biggest advantage of capitalism is that
a. It generates equality.
b. Prices assist in moving assets from highvalue
to low-value uses.
c. It is fair.
d. It creates wealth by letting a person
follow his or her own self-interest.
Answer:
D. it creates wealth by letting a person follow his or her own self-interest
Question:
2-1 Airline Delays
How will commercial airlines respond to the
threat of new $27,500 fines for keeping passengers
on the tarmac for more than 3 hours? What
inefficiency will this create?
Answer:
Carriers say that to avoid those fines, they will aggressively cancel flights before
and during storms even if the bad weather never materializes. The threat could
foreshadow significant changes in air travel, making it even less reliable for
millions of road warriors and vacationers. By canceling flights, it could take days
for all travelers to get home when storms strike.
Question:
I recently sold my used car. If no new production
occurred for this transaction, how could it have
created value?
Answer:
,The value of my willingness-to-sell was less than the buyer's willingness-to-pay.
Any transaction price between these allows for a voluntary exchange in which we
both benefit. Since we are both
better off, value was created.
Question:
The U.S. government subsidizes flood insurance
because those who want to buy it live in the flood
plain and cannot get it at reasonable rates. What
inefficiency does this create?
Answer:
Subsidies are like taxes in this case. Taxation will keep some efficient transactions
from being
consummated because potential transactions where the difference in buyer and
seller valuation is
positive will no longer cover the amount of the tax to be paid. This prevents the
asset from moving to
its highest valued use. With a subsidy, transactions in which the assets moves from
a higher valued
use to a lower valued use can be consummated so long as the difference is less
than the amount of the
subsidy. This moves the asset to a lower valued use. With flood insurance worth an
expected
$20,000, homeowners would be willing to spend $120,000 to build a house that
they value at only
$100,000. Wealth is destroyed.
Question:
An elderly physician has built up his own practice
into a quite valuable business. Now that
he is thinking of retiring, he wants to take on a
partner to learn the business and eventually buy
the practice in three years. Her compensation
will be a salary plus 25% of the profits if they
are below the historical average and 50% for
any increase above the historical average. The
eventual purchase price for the practice will be
5 times the average profits over the three years.
Discuss the efficiency aspects of such a contract.
Are the incentives of the buyer and seller
aligned?
Answer:
There are a few points:
• Overlapping tenure for the retiring and new physicians tends to increase the
transfer of
practice specific knowledge.
• Profit sharing with the new physician increases her incentives to maximize profits.
• However, since the sale price is a multiple of the profits during this 3 year
, 'probation' the
new physician has an incentive to shirk to keep the profits low. It might have been
better to
use a multiple of profits from the period before she began this probation.
Question:
When Kraft recently bid $16.7 billion for Cadbury,
Cadbury's market value rose, but Kraft's
market value fell by more. What does this tell
you about the value-creating potential of the
deal?
Answer:
It means that Kraft's shareholders, and potential shareholders, think that Kraft's
profits will fall. This
would be the case if Kraft's $16.7 billion bid is greater than the present value of the
expected future
profits from the Cadbury unit. Essentially, the combined market value of the firms
separately is
greater than the market value of the firms together. The market thinks that
combining these assets
will destroy value.
Question:
Two similar surgeries, breast reconstruction and
breast augmentation, have different prices. Breast
augmentation is cosmetic surgery not covered by
health insurance. Patients who want the surgery
must pay for it themselves. Breast reconstruction
following
breast removal due to cancer is covered by
insurance. The price for one of the surgeries has
increased
by about 10% each year since 1995 while
the other has increased by only 2%per year.Which
of the surgeries has the lower inflation rate? Why?
Answer:
Market pressure comes from two sources: consumers who can choose not to
purchase, and
competitors who can offer lower prices. Breast augmentation is subject to both of
these forces, and
thus has a lower price, while breast reconstruction is covered by insurance where
the consumer
pressure is weaker.
Question:
