Problems 46714-18 (a) Compute the equivalent annual inflation rate,
based on the consumer price index, for the period
from 1981 to' 1986.
(b)Using the equivalent annual inflation rate com-
puted in part (a), estimate the consumer price
index in 1996, working from the 1987 Consumer
Price Index.14-19 How much will a $20,000 automobile cost 10 years
from now if inflation continues at an annual rate of
4% for the next decade?
14-20 You are considering the purchase, for $15,000, of an
annuity that pays $2500 per year for the next 10 years.
You want to have a real rate of return of 5%, and you
estimate inflation will average 6% per year over the
next 10 years. Should you buy the annuity?
14-21 Inflation is a reality for the general economy of the
United States for the foreseeable future. Given this
assumption, calculate the number of years it will take
for the purchasing power of today's dollars to equal
one-fifthof their present value. Assume that inflation
will average 6% per year.
14-22 A homebuilder's advertising has the caption, "Infla-
tion to Continue for Many Years." The advertisement
continues with the explanation that if one buys a home
now for $97,000, and inflation continues at a 7%
annual rate, the home will be worth $268,000 in
15 years. According to the advertisement, by pur-
chasing a new home now, the buyer will realize a
profit of $171,000 in 15 years. Do you find this logic
persuasive? Explain.
14-23 Sally Seashell bought a lot at the Salty Sea for $18,000
cash. She does not plan to build on the lot, but instead
will hold it as an investment for 10 years. She wants a
10% after-tax rate of return after taking the 6% annual
inflation rate into account. If income taxes amount to
15% of the capital gain, at what price must she sell the
lot at the end of the 10 years? (Answer: $95,188)14-24 A group of students decided to lease and run a gaso-
line service station. The lease is for 10 years. Almost
immediately the students were ~onfronted with the
need to alter the gasoline pumps to read in liters. The
Dayton Company has a conversion kit available for
$900 that may be expected to last 10 years. The firm
also sells a $500 conversion kit that has a 5-year useful
life. The students believe that any money not invested
in the conversion kits may be invested elsewhere at a
10% interest rate. Income tax consequences are to be
ignored in this problem.
(a)Assuming that future replacement kits cost the
same as today, which alternative should be
selected?
(b) If one assumes a 7% inflation rate, which alter-
native should be selected?
14-25 Pollution control equipment must be purchased to
remove the suspended organic material from liquid.
being discharged from a vegetable packing plant.
Two alternative pieces of equipment are available that
would accomplish the task. A Filterco unit presently
costs $7000 and has a 5-year useful life. A Duro unit,
on the other hand, now costs $10,000 but will have a
lO-year useful life.
With inflation, equipment costs are rising at
8% per year, compounded annually, so when the
Filterco unit needed to be replaced, the cost would be
much more than $7000. Based on a lO-year analysis
period, and a 20% minimum attractive rate of retuni,
before taxes, which piece of pollution control equip-
ment should be purchased?
14-26 The City of Columbia is trying to attract a new manu-
facturing business to the area. It has offered to install
and operate a water pumping plant to provide service
to the proposed plant site. This would cost $50,000
now, plus $5000 per year in operating costs for the
next 10 years, all measured in year-O dollars.
To reimburse the city, the new business must pay
a fixed uniform annual fee,A,at the end of each year
for 10 years. In addition, it is to pay the city $50,000
at the end of 10 years. It has been agreed that the
city should receive a 3% rate of return, after taking
an inflation rate,f, of 7% into account.
Determine the amount of the uniform annual fee.
(Answer:$12,100).
14-27 Sam purchased a home for $150,000 with some cre-
ative financing. The bank, which agreed to lend Sam
$120,000 for 6 years at 15% interest, took a first mort-
gage on the house. The Joneses, who sold Sam the
house, agreed to lend Sam the remaining $30,000
for 6 years at 12% interest. They received a second
mortgage on the house. Thus Sam became the owner
without putting up any cash. Sam pays $1500 a month
on the first mortgage and $300 a month on the sec-
ond mortgage. In both cases these are "interes~only".
loans, and the principal is due at the end of the loan.
Sam rented the house, but after paying the taxes,
insurance, and so on, he had only $800 left. so he was
forced to put up $1000 a month of his own money
to make the monthly payments on the mortgages. At