Eco 202 exam 3 review
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Transcript of Eco 202 exam 3 review
Exam 3 Review
The Basic Tools of Finance
Islamic Finance
Unemployment
FinanceTimeRisk
TimeFuture ValuePresent Value
Future ValueWhat something today
will be worth in the future
Compounding
Present ValueWhat something in the future is worth today
Discounting
(1+r)N
r = Rate of compounding
N = Number of Periods
Compounding Discounting
(1+r)N(1+r)N 1
Future Value Present ValueMultiply Present Value
by factor to get Future Value
Multiply Future Valueby factor to get Present Value
Two ways to get Present Value
(1+r)N 1 PV = FV x
or
(1+r)N FV PV =
FV = PV x Factor
Rewrite
Factor FactorFV = PV x Factor
FactorPV = FV
1. Calculate factor (1+r)N
2. Is the problem FV or PV?
3. If FV then multiply by PV
FV = PV x Factor
4. If PV then divide FV by
PV = FV ÷ Factor
Future Value
= Present Value x (1+r)N
Present Value = 500r = 5% or .05N = 4Future Value = ?
= PV x (1+.05)4
= PV x 1.2155= 500 x 1.2155= 607.75
Present Value
= Future Value ÷ (1+r)N
Future Value = 2000r = 8% or .08N = 5Present Value = ?
= FV ÷ (1+.08)5
= FV ÷ 1.4693= 2000 ÷ 1.4693= 1361.16
QuestionsAlways given r and N
If given PV, then solve for FV
If given FV then solve for PVPV
FV
FV ?=
PV ?=r and N
Risk
Don’t like RiskRisk Adverse
Cannot always avoidReduce exposure
DiversificationReplace one large risk
with lots of small unrelated risks
SmallRisk
SmallRisk
SmallRisk
SmallRisk
SmallRisk
SmallRisk
LargeRisk
Insurance
Sharing riskDoes not eliminate riskReduce your exposure
How to Fund an Insurance Pool
Estimate Loss
Estimate Probability
Premium = Loss x Probability
Members = Loss ÷ Premium
Loss = 100
Probability 1 in 20 or .05
Premium = 100 x .05 = 5
Members = 100 ÷ 5 = 20
How to Fund an Insurance Pool
Adverse Selection
Making a bad choice due to asymmetric
information
Moral Hazard
Changing behavior after an agreement
Temptation to abuse the other party
Three Risks
Firm RiskIndustry RiskMarket Risk
Speculative Bubble
Price is greater than fundamental value
Buy because everyone else is buying
Chapter 28
IslamicFinance
Islamic FinanceMust have an asset
involved in the exchange
No money for money
IslamicProfit and loss sharing system
Non Islamicinterest-based system
Shariah - Sacred LawRiba - Usury -InterestGharar - UncertaintyHaram - ProhibitiedHalal - PermittedZakat - Religious TaxHiba - Gift
Deposits Current Saving -Wadiah Investment - MudarabahEquity Financing Mudarabah - Risk Musharakah - Share RiskAsset Financing Murabahah - Resell Salem - Crop Loan Ijarah Leasing - ReturnSukuk - Bonds Takaful - Insurance
FutureDifferent views and interpretations
EvolvingNo uniform consensus
Five schools of thoughtShafi’i, Maliki, Hanafi,
Hanbali, and Shi’a
Chapter 29
Unemployment
Total Population 30 million
Non-Saudis 10 million
Saudis 20 million
Adult Population Age 15+ 11 million
Not in Labor Force 6 million
In Labor Force 5 million
Labor Force Participation Rate 45%
Employed 4.4 million
Unemployed 600 thousand
Unemployment Rate 12%
Source: General Statistics Department and Information
Saudi Labor Force Around
Employedpaid employees
work in own businessunpaid workers in family business
full-time and part-timejobs but temporary absence
Unemployednot employed
availabletried to find a job in the last four
weekswaiting to be recalled from layoff
Discouraged Workers
People who would like to work but have given
up looking for a job
Not in Labor Forcenot employed or unemployed
discouraged workersfull-time student
homemakerretiree
Unemployment Rate
The percentage of the labor force that is
unemployed
Employment Analysis Saudi U.S China
Unemployment Rate 12.2% 7.9% 4.1%
Participation Rate 45.0% 63.3% 74.2%
Natural Rate of Unemployment
The normal rate of unemployment around
which the unemployment rate fluctuates
CyclicalUnemployment
The deviation of unemployment from its
natural rate
ProblemsOverstate - Above actual
Cash workers
Understate - Below actualDiscouraged workers
Unemployment
FrictionalSeasonalStructural
Frictional
Time to find a new job
Seasonal
Demand changes with the season
Structural
Too many workers
Change in demand for skills
Structural
Creative Destruction
10% a Year
Unemployment Insurance
Government program to provide income when
workers become unemployed
Unemployment Insurance
Unintended ConsequenceMoral Hazard
May prolong unemployment
Why are wages too high?
Minimum wage lawsUnions
Efficiency Wages
Minimum Wage Laws
Government sets a minimum wage that can
legally be paid
0
1,000
2,000
3,000
4,000
0 10 20 30 40 50 60
Supply
Demand
Wage
Workers
Equilibrium Wage
30 workers30 jobs
no unemployment
Minimum Wage40 workers
20 jobs20 unemployed
workers
Minimum Wage20 workersget a raise10 workers
lose job10 new
unemployed workers
MinimumWage
Efficiency Wages
Higher wages make more productive
employees
Efficiency Wages
Employee Wage Pizzas ProductivityWage per Pizza
Ali 100 5 20.0
Abdullah 200 12 16.7
Efficiency Wages
More HealthyLower TurnoverHigher Quality
More Effort