I. Discounting. According to economic theory, agricultural land values (prices) equal the present value of expected future rents, where rents are calculated as the difference between revenue received and production costs. Suppose the interest rate is 5% and expected future rents on 1 acre of land are as follows: Year 1:$125 Year2: $250 Year3: $320
1. What is the price of land?
II. Houses. Suppose you have an offer of $200,000 to sell your house this year. The market rate of interest is 10%. You expect to be able to sell your house next year for $230,000.
2. Should you sell your house this year or should you wait and sell next year?
3. If you only expected to get $215,000 next year what would you do?
4. How does this relate to the theory of nonrenewable resource allocation over time as discussed in class?
5. In particular, what does it tell you about how prices must behave in a market for nonrenewable resources?