Archive for the ‘Economics’ Category

Real World Graduation, Question 41: US Currency

RealWorldGraduation_Question_41_US_Currency   <– PDF

The basic currency unit of the United States is called the dollar.  The word “dollar” is a modification of the word “taler”, which is a nickname for “thaler”, which was the name of a coin minted by the Dutch which contained one ounce of 0.999 pure silver.  Therefore, a dollar was originally devised in 1786 to designate a coin containing 375.64 grains of pure silver.  There are 480 grains in a troy ounce, so the dollar consisted 0.7825 troy ounces of silver.  There are 31.103 grams per troy ounce, and therefore the dollar was 24.3406 grams of pure silver.  Silver was traditionally regarded as 1/15th the value of gold, hence the dollar, although defined in silver, was equivalent to 1.622 grains of gold.

In 1834, the U. S. government decided to reduce the weight of gold in the gold coinage, so it altered the value of silver to be 1/16th of the value of gold, thus one dollar was devalued to 1.521 grams of gold.  This put the dollar implicitly on a gold standard, although coins of both types circulated (and the dollar remained at 0.7825 ounces of silver).

In 1900, the dollar was formally converted to a gold standard, in which one dollar was worth 23.195 grains (which is 0.0483 troy ounces or 1.503 grams) of pure gold. The dollar was thus valued at 20.694 dollars per troy ounce.

In 1934, the dollar was devalued to $35 dollars per troy ounce of gold (13.71 grains or 0.02857 troy ounces or 0.8886 grams).

In modern times, dollars are issued as paper Federal Reserve Notes by a consortium of private banks acting as a central bank, called the Federal Reserve Bank. The dollar is backed by the “full faith and credit of the United States Government”.  Therefore, the paper dollar, while itself is nothing more than paper and ink, is simply a representation of real value.  How is the “full faith and credit of the United States Government” manifested when redeeming the paper dollars (in other words, for what things of value may paper dollars be exchanged at any Federal Reserve Bank)?

a) Gold, at the rate of 1/16th troy ounce per dollar

b) Silver, at the rate of 0.7825 troy ounces per dollar

c) Stock in the Federal Reserve banks

d) Land held in trust by the Government, mostly in the western states

e) The citizen may choose either gold at 0.02857 ounces per dollar per the 1934 gold standard, or silver at 0.7825 ounces per dollar per the revised 1834 silver standard.

(See the answer on p. 2 of the PDF.)

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Real World Graduation: Question 36

RealWorldGraduation_Question_36   <– PDF

The 401(k) system was set up such that people could save and invest their money prior to paying taxes, let the money grow over time, then pay the taxes later when they started withdrawing it as early as age 59.5. However, early withdrawals are permitted for certain hardships with no penalty.  Hardships are defined as large medical bills (as long as they do not exceed what can be deducted on your income tax), disability, and the splitting of a 401(k) account due to a divorce.  Otherwise, early withdrawals are penalized at 10% of the withdrawal amount, and all income taxes on the amount withdrawn are due immediately.  Aside from hardship cases, under what circumstances should the average person consider an early withdrawal from their 401(k), even though they have to pay taxes and penalties?

a) To buy a house, or make a down payment on one

b) To buy a car

c) To use the money to invest in the stock market (buying individual securities)

d) To pay for a honeymoon or other vacation

e) Both a) and c) are valid causes

(The answer is on p. 2 of the PDF)

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Real World Graduation: Question 35

RealWorldGraduation_Question_35   <– PDF

What is the source of wealth in the U. S.?

a) The Federal Reserve, because it prints the money.

b) The U. S. Treasury

c) Banks

d) The Stock and Commodities Markets

e) There is no one source of wealth in the U. S.; all of the above together are the source of wealth.

(The answer is on p. 2 of the PDF.)

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Real World Graduation: Question 34

RealWorldGraduation_Question_34  <– PDF

Suppose you are 21 years of age and have $1,000 to invest. Which of the following investment strategies offer the greatest long-term financial benefits?  Assume that the Prime Rate (the interest rate the Federal Reserve charges to the largest banks) is 5.2%.  The banks in turn will lend money at 3 to 10% above the Prime Rate, depending on the credit-worthiness of the applicant.   All of these investment strategies are legal in all 50 states.

a) You lend your $1,000 to an individual who promises to pay you 25% per year ($250 per year) interest on the principal. At the end of 10 years, you will receive $3500, $1000 of which is your original loan, and $2500 is interest on the loan. The average annual return to you on this loan is 25%.

b) You lend your $1000 to a corporation. The corporation agrees to repay you $600 the first year, $400 the second year, and $200 in the third year.  In all, you will receive $2200 over the three years, $1000 of which is the original loan amount, and $1200 is interest.  The average annual return on this loan is 40%.

c) You give your $1000 to a corporation, and they agree to pay you $100 per month (indexed for inflation) for life beginning when you turn age 50. Suppose your current median life expectancy is 57 years (meaning that people your age have a median life span of 57 more years).  This means that half the people now aged 21 will die before they reach 78, and half will live to 78 or longer.  If you fall in the median range for life expectancy, you will collect for 28 years starting on your 50th birthday.  Indexing for inflation means that if inflation of the currency causes the dollar to be only half as valuable as it is now, the corporation will compensate you by paying $200 per month, i.e., you will receive $100 in today’s buying power, not just $100.  Assume that you are now 21 and you expect to live to be 78 (the median life expectancy).  Then, you will receive the equivalent of $33,600 in present-year dollars, all of it in interest.  The average return over the 57 years between now until time of death is 58.9% (although you will collect it only for the last 28 years of your life).

d) Go to the Off-Track Betting Parlor next Tuesday and bet the entire $1000 on horse #3 in the fourth race.

e) Each of the first three options have varying benefits and risk, so it would be wise to split the $1000 among the first three options (not necessarily equally).

(The answer is on p. 2 of the PDF.)

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