19.Suppose you have $15,000 in a bank account earning an interest rate of 5%per year.At the same time you have an unpaid balance on your credit card of $8,000 for which you are paying 18%interest. What is the arbitrage opportunity you face? Answer:If you take $8,000 out of your bank account and pay off the credit card you give up 0.05%x S8,000=S400,but you can save 0.18 x S8,000 S1,440 in interest expenses.So the arbitrage opportunity is worth $1,040 per year. 20.Suppose the real rate of interest on a TIPS is 4%per year,and the expected U.S.inflation rate is 3.5% per year.What is the expected nominal rate of return on these bonds? Answer:(1+nominal rate)=(1 real rate)x(1 inflation) =1.04)x1.035) =1.0764 nominal rate 7.64%per year Longer Problems 1.Discuss the four main factors that determine rates of return in a market economy Answer:The four main factors that should be discussed are: The productivity of capital goods-expected rates ofreturn on mines,dams,roads,bridges, factories,machinery and investments The degree of uncertainty regarding the productivity of capital goods The time preferences of people Risk aversion 2.Discuss the role of the financial intermediary and give two examples. Answer:A financial intermediary is an entity whose primary business is to provide customers with financial products that cannot be obtained more efficiently by transacting directly in securities markets. Examples include banks,insurance companies,mutual funds,investment companies,venture capital firms,asset management firms,and pension and retirement funds. 2-182-18 19. Suppose you have $15,000 in a bank account earning an interest rate of 5% per year. At the same time you have an unpaid balance on your credit card of $8,000 for which you are paying 18% interest. What is the arbitrage opportunity you face? Answer: If you take $8,000 out of your bank account and pay off the credit card you give up 0.05% x $8,000 = $400, but you can save 0.18 x $8,000 = $1,440 in interest expenses. So the arbitrage opportunity is worth $1,040 per year. 20. Suppose the real rate of interest on a TIPS is 4% per year, and the expected U.S. inflation rate is 3.5% per year. What is the expected nominal rate of return on these bonds? Answer: (1+ nominal rate) = (1 + real rate) x (1 + inflation) = (1.04) x (1.035) = 1.0764 nominal rate = 7.64% per year Longer Problems 1. Discuss the four main factors that determine rates of return in a market economy. Answer: The four main factors that should be discussed are:  The productivity of capital goods – expected rates of return on mines, dams, roads, bridges, factories, machinery and investments  The degree of uncertainty regarding the productivity of capital goods  The time preferences of people  Risk aversion 2. Discuss the role of the financial intermediary and give two examples. Answer: A financial intermediary is an entity whose primary business is to provide customers with financial products that cannot be obtained more efficiently by transacting directly in securities markets. Examples include banks, insurance companies, mutual funds, investment companies, venture capital firms, asset management firms, and pension and retirement funds