The following is not particularly Austrian, but may be interesting -
An Economic Puzzle
Assume that you are the owner of a new, private, diamond marketing company located on a remote, tax-free island nation. Your entire company assets consist of an inventory of 65 large, identical, flawless, uniquely cut diamonds, which you have just acquired from the estate of a world famous diamond cutter for $24.375M in cash, or $375K each. Your company has a single employee, holding the title of President and Marketing Manager, and earning an annual salary of $250K, which represents and includes the entire annual expense budget for the company. The entire net cash flow of the company, revenues minus expenses, is paid out to you in an annual dividend and is placed in an interest-bearing demand account compounding at a 4.5% real (and nominal) rate per annum, a rate that results in a time to double of 16 years.
The annual market demand schedule for your diamonds is presumed to be time-invariant, to have a perfect unitary price elasticity of demand and no possibility of price discrimination, and to have a demand independent of previous sales. In particular, a price of $1M produces a demand for 1 diamond per year, a price of $500K produces a demand for 2 diamonds per year, and so forth.
Your President has just presented you with an offer to reduce his current year's salary from $250K to $125K in exchange for a single diamond which he intends to have crafted into a unique engagement ring to bestow on his prospective fiancee.
Is a decision to accept this offer, a form of partial non-cash compensation, of a one-time salary reduction of $125K in exchange for a diamond whose cash acquisition cost was $375K, and which has a possible market value of up to $1M, and a net cash flow of up to $750K, financially justified? Why, or why not?
Answer being held back for the time being.
Regards, Don |
