Reading and Homework Assignment
Discounting Benefits and Costs in Future Time Periods
Refer to Cost-Benefit Analysis: Concepts and Practice (4th Edition) by Anthony E. Boardman, et al., the posted notes on CANVAS under "Files', and view the class recording on Chapter 6, then answer the following questions completely. Show your work/ calculations.
1. A highway department is considering building a temporary bridge to cut travel time during the three years it will take to build a permanent bridge. The temporary bridge can be put up in a few weeks at a cost of $740,000. At the end of three years, it would be removed and the steel would be sold for scrap. The real net cost of this removal would be $81,000. Based on estimated time savings and wage rates, fuel savings, and reductions in risks of accidents, department analysts predict that the benefits in real dollars would be $275,000 during the first year, $295,000 during the second year, and $315,000 during the third year. Departmental regulations require use of a real discount rate of 4 percent.
a. Calculate the present value of net benefits assuming that the benefits are realized at the end of each of the three years.
b. Calculate the present value of net benefits assuming that the benefits are realized at the beginning of each of the three years.
c. Calculate the present value of net benefits assuming that the benefits are realized in the middle of each of the three years.
d. Calculate the present value of net benefits assuming that half of each year's benefits are realized at the beginning of the year and the other half at the end of the year.
e. points) Does the temporary bridge pass the net benefits test?
2. A town's recreation department is trying to decide how to use a piece of land. One option is to put up basketball courts with an expected life of eight years. Another is to install a swimming pool with an expected life of 24 years. The basketball courts would cost $180,000 to construct and yield net benefits of $40,000 at the end of each of the eight years. The swimming pool would cost $2.25 million to construct and yield net benefits of $170,000 at the end of each of the 24 years. Each project is assumed to have zero salvage value at the end of its life. Using a real discount rate of 5 percent, which project offers larger net benefits?
3. The environmental protection agency of a county would like to preserve a piece of land as a wilderness area. The current owner has offered to lease the land to the county for 20 years in return for a lump-sum payment of $1.1 million, which would be paid at the beginning of the 20-year period. The agency has estimated that the land would generate $110,000 per year in benefits to hunters, bird watchers, and hikers. Assume that the lease price represents the social opportunity cost of the land and that the appropriate real discount rate is 4 percent. Assuming that the yearly benefits, which are measured in real dollars, accrue at the end of each of the 20 years, calculate the net benefits of leasing the land.
All work must be typed using Times New Roman or Calibri, 12 points font and must be submitted in MS Word; work submitted in any other format will not be graded. Your file name should be YOURLASTNAME_YOURFIRSTNAME_Homework 6.doc
Submit/ upload your answers as an attachment using the CANVAS setting for Homework 6. Emailed submissions are not acceptable.