Unobserved Firm Volatility Is an Obstacle in the Implementation of the Merton

question 12

Multiple Choice

Unobserved firm volatility is an obstacle in the implementation of the Merton model. One popular way to overcome this is to

• A) Use the model only on non-financial firms.
• B) Use equity prices to back out firm volatility.
• C) Use equity volatility in place of asset volatility in implementing the model.
• D) Use data on closely-related firms from the same sector to infer this volatility.

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Definitions:

Potential GDP

Potential GDP is the maximum possible output an economy can produce with full employment of its resources, without causing inflation.

Actual GDP

The total market value of all goods and services produced within a country in a specific period, measuring the economy's real output without adjustment for inflation.

Self-correcting Forces

Economic mechanisms that naturally work to restore equilibrium in markets without government intervention.

Potential GDP

The maximum output an economy can produce without triggering inflation, if it fully employs all available resources, including labor and capital.