Paolo currently has $100,000 invested in bonds that earn him 10 percent interest per year. He wants
Question:
Paolo currently has $100,000 invested in bonds that earn him 10 percent interest per year. He wants to open a pizza restaurant and is considering either selling the bonds and using the $100,000 to start his restaurant or borrowing $100,000 from a bank, which would charge him an annual interest rate of 7 percent. He finally decides to sell the bonds and not take out the bank loan. He reasons, "Because I already have the $100,000 invested in the bonds, I don't have to pay anything to use the money. If I take out the bank loan, I have to pay interest, so my costs of producing pizza will be higher if I take out the loan than if I sell the bonds." Evaluate Paolo's reasoning.
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Paolo has forgotten to take into account the opportunity cost of keeping the money invested ...View the full answer
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