Chapter 4

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a banker's acceptance is a. for greater than one year maturity b. a liability of the importer and the importer's bank a method to help importers evaluate the credit worthiness of exporters d. an add-on instrument e. a time draft drawn on the exporter's bank

The _____________ is a network linking over 9,000 banks with the Federal Reserve that is used to transfer deposits and make loan payments between participants. A. Fedwire B. ACH C. CHIPS D. NASDAQ E. SWIFT

The major asset of the Federal Reserve is A. U.S. Treasury securities. B. depository institution reserves. C. currency outside banks. D. vault cash of commercial banks. E. gold and foreign exchange.

Which of the following is the major monetary policy making body of the U.S. Federal Reserve System? A. FOMC B. OCC C. FRB bank presidents D. U.S. Congress E. Group of Eight

The Federal Reserve is charged with a. regulating securities exchanges. b. conducting monetary policy. c. initiating loans between banks on the fed funds market. d. setting bank prime rates. e. Both A and C are correct.

b. conducting monetary policy

5. All ________ are required to be members of the Fed. a. state chartered banks b. nationally chartered banks c. banks with assets less than $100 million d. banks with assets less than $500 million

b. nationally chartered banks

In the context of the Federal Reserve, the discount rate a. Is the rate used in finance to calculate the NPV. b. The rate the Fed charges on direct loans it makes. c. The target interest rate. d. The rate banks charge securities dealers to finance their inventory.

b. the rate the Fed charges on direct loans it makes

Relative to investment-grade bonds, which of the following is false for so-called junk bonds? a. They have higher yields-to-maturity. b. They are often purchased by pension funds. c. They have higher probabilities of default. d. They have higher coupon rates.

b. they are often purchased by pension funds

If the Fed wishes to stimulate the economy, it could: I. Buy U.S government securities II. Raise the discount rate III. Lower reserve requirements A. I and III only B. II and III only C. I and II only D. II only E. I, II, and III.

Which of the following is the major monetary policy-making of the U.S Federal Reserve System? A. FOMC B. OCC C. FRB bank presidents D. U.S Congress E. Group of Eight

The term structure of interest rates is upward sloping for all bond types. A certain AAA rated non-callable 10-year corporate bond has been issued at a 6.15% promised yield. Which one of the following bonds probably has a higher promised yield? A. A similar quality municipal bond. B. A non-callable AAA rated corporate bond with a 5-year maturity. C. A callable AAA rated corporate bond with a 15-year maturity. D. A non-callable AAA rated convertible corporate bond with a 10-year maturity. E. All of the above would have a higher promised yield.

C. A callable AAA rated corporate bond with a 15-year maturity

Decisions of the FOMC are sent to the ______________________ at the New York Fed which carries out the necessary transactions

Open Market Desk

Members of the board of governors are appointed by the __________________. and confirmed by the ____________

President, Senate

For the purposes for which they are used, money market securities should have which of the following characteristics? I. Low trading costs II. Little price risk III. High rate of return IV. Life greater than one year A. I and III B. II and IV C. III and IV D. I and II E. I, II, and III

D. I and II

Classify each of the following in terms of their effect on interest rates (increase or decrease): I. Covenants on borrowing become more restrictive II. The Federal Reserve increases the money supply III. Total household wealth increases A. I increases; II increases; III increases B. I increases; II decreases; III decreases C. I decreases; II increases; III increases D. I decreases; II decreases; III decreases E. none of the above

D. I decreases; II decreases; III decreases

An annual payment bond has a 9% required return. Interest rates are projected to fall 25 basis points. The bond's duration is 12 years. What is the predicted price change? A. -2.75% B. 33.33% C. 1.95% D. -1.95% E. 2.75%

E. 2.75% -12x(-0.0025/1.09)

A 4-year maturity 0% coupon corporate bond with a required rate of return of 12% has an annual duration of _______________ years. A. 3.05 B. 2.97 C. 3.22 D. 3.71 E. 4.00

E. 4.00

Commercial paper is a short term obligation of the U.S. government issued to cover government budget deficits and to refinance maturing government debt.

False

Secondary markets for municipal bonds are highly liquid.

False

Suppose two bonds of equivalent risk and maturity have different prices such that one is a premium bond and one is a discount bond. The premium bond must have a greater expected return than the discount bond.

False

T/F: Quantitative Easing program initiated by the Federal Reserve during the 2010-2014 period, involved the purchase of long-term corporate bonds.

False

The Federal Reserve primarily regulates state banks.

False

The U.S. Treasury switched from a discriminating price auction to a single price auction because the latter lowered the average price paid by investors.

False

The bond equivalent yield times 365/360 is equal to the single payment yield.

False

The majority of money market securities are low denomination, low risk investments designed to appeal to individual investors with excess cash.

False

The unbiased expectations hypothesis of the term structure posits that long-term interest rates are unrelated to expected future short-term rates.

False

Treasury notes and bonds and municipal bonds are default risk free.

False

We expect liquidity premiums to move inversely with interest rate volatility.

False

With TIPS, the security's coupon rate is changed every six months by the inflation rate as measured by the CPI.

False

_________________ are paid on the stock purchased by banks to become members of the fed

Fixed dividends

the major liability of the federal reserve is a. deposit institution reserves b. gold and foreign exchange c. U.S. treasury securities d. vault cash of commercial banks e. currency outside banks

which of the following is the major monetary policy making body of the U.S. federal reserve system? a. FOMC b. oCC c. Group of eight d. FRB bank presidents e. U.S. Congress

8. While the discount rate is "established" by the regional Federal Reserve Banks, in truth, the rate is determined by a. Congress b. The President of the United States c. The Senate d. The Board of Governors

d. The Board of Governors

The fed decides which banks will receive _________ loans

discount

The fed establishes the ________ rate

discount

do nothing; decrease the money supply

The Fed changes reserve requirements from 10 percent to 7 percent, thereby creating $900 million in excess reserves. The total change in deposits (with no drains) would be

$12,857 million., (1/0.07) × $900 million

A $2 million jumbo CD is paying a quoted 3.55 percent interest rate on 180-day maturity CDs. How much money will you have at maturity if you invest in the CD?

$2,035,500, 2,000,000 × [1 + (0.0355 × 180/360)]

What is the price of 182-day money market security with face value of $7,000 if the BEY is 3.574%?

$6,877.44, (7,000 − P)/P × 365/182 = 0.03574 (7,000 − P)/P = 0.01782 P = $6,877.44

derivative security

-a financial security who payoff is linked to (derived from) another security or commodity -an agreement to exchange a standard quantity of assets at a set price on a specific date in the future -derives value from another asset

non depository institutions

-contractual: insurance companies, pension funds -noncontractual: securities firms and investment banks, mutual funds

depository institutions

-need deposit -commercial banks, savings associations, savings banks, and credit unions

Dodd Frank

-promote robust supervision of FIs -financial service oversight council to identify and limit systematic risk -broader authority for Federal Reserve to oversee non-bank FIs -higher equity capital requirements -registration of hedge funds and private equity funds -new methods to resolve non-bank financial crisis -more oversight Fed ballot decisions -increase international capital standards and increased -oversight of international operations of FIs

One of the seven members is appointed to serve a _-year term as Chair.

FOMC members meet about every ___ weeks and set ______________ policy for the U.S.

6, monetary

___________ are subject to Fed reserve requirements

All banks

In dollars outstanding in 2010 the largest money market security was A. commercial paper. B. banker's acceptances. C. T-Bills. D. Fed funds & repos.

C. T-Bills

A negotiable CD A. is a bank issued transactions deposit. B. is a registered instrument. C. is a bank issued time deposit. D. has denominations ranging from $50,000 to $10 million. E. pays discount interest.

C. is a bank issued time deposit

An 18 year T-Bond can be stripped into how many separate securities? A. 18 B. 19 C. 36 D. 37 E. 38

D. 37

Corporate Bond A returns 5% of its cost in PV terms in each of the first five years and 75% of its value in the sixth year. Corporate Bond B returns 8% of its cost in PV terms in each of the first five years and 60% of its cost in the sixth year. If A and B have the same required return, which of the following is/are true? I. Bond A has a bigger coupon than Bond B. II. Bond A has a longer duration than Bond B. III. Bond A is less price-volatile than Bond B. IV. Bond B has a higher FPV than Bond A. A. III only B. I, III, and IV only C. I, II, and IV only D. II and IV only E. I, II, III, and IV

D. II and IV only

Factors making the Fed dependent:

Fed was created by an act of Congress and can be changed by Congress, The President appoints the Board members and can influence legislation

______ of the twelve bank presidents vote on the FOMC

Five

Explain how a change in open market operations can affect a new college graduate.

If the Fed increases bank reserves or changes their price, interest rates on all loan types will be affected. For instance, if the Fed acts to lower interest rates, corporations will likely have more projects with positive NPVs, leading to more spending and more jobs. A college graduate is then more likely to get hired, and your interest rates on new cars, homes, etc., will likely be lower, not to mention that the value of your stock holdings would probably go up.

How does a banker's acceptance help create more international trade?

Importers do not wish to pay until they receive the goods and exporters do not wish to ship until they receive payment. The creation of a BA allows the exporter to ship prior to receipt of payment, while substituting the credit worthiness of a large international bank for the unknown creditworthiness of the importer.

The Federal Reserve does all but which one of the following?

Insures deposits

The ______________ bank, with around one-quarter of the assets, is the most important of the Federal Reserve banks

New York

Commercial paper, Treasury bills, and banker's acceptance rates are all quoted as discount yields.

TRUE

If the FOMC wished to generate faster economic growth, they could issue a policy directive to the Federal Reserve Board Trading Desk to purchase U.S. government securities.

TRUE

Households generally supply more funds to the markets as their income and wealth increase, ceteris paribus.

True

If interest rates increase, the value of a fixed income contract decreases and vice versa.

True

The seven members of the Board of Governors of the Federal Reserve System serve 14-year nonrenewable terms. Each Board member is appointed by the President and confirmed by the Senate.

True

A decrease in reserve requirements could lead to an

increase in bank lending and an increase in the money supply.

FDIC: Federal Deposit Insurance Corporation

insures each depositor at a bank for up to $100,000

The Federal Reserve (is/is not) independent

capital markets

markets that trade debt and equity with maturities for more than a year notes/bonds and stocks substantial risk of capital loss higher returns

All national banks (commercial banks chartered by the Office of the Comptroller of the Currency) are required to become ________________ of the Federal Reserve System.

members

Factors making the Fed independent:

members serve long terms, Fed is financially independent

Commercial banks chartered by _______________ are not required to be members, but they can choose to join.

the states

About 34 percent of all U.S. banks are members of the Federal Reserve System

true

Fed funds are short-term unsecured loans while repos are short-term secured loans

true

The monetary base is the amount of coin and currency in circulation plus reserves.

true

money markets exist to help reduce the opportunity cost of holding cash balances

true

nationally chartered banks are required to become members of the federal reserve system

true

the largest secondary money market in the U.S. is the secondary market for t-bills

true

the monetary base is the amount of coin and currency in circulation plus reserves

true

secondary markets

when financial markets are traded among investors original company doesn't get money from the sale 2nd time + being sold between economic agents wanting to sell, financial markets, and economic agents wanting to buy add value to primary markets and provide liquidity

Consumer Financial Protection Bureau

-created by Dodd Frank -works to "make markets work for Americans"

What supervisory and regulatory authority does the Fed have under current law?

1) The conduct of examinations and inspections of member banks, bank holding companies, and foreign bank offices by teams of bank examiners. 2) The authority to require banks to suspend bank activities deemed excessively risky or in violation of federal laws. 3) The authority to approve or not allow mergers and acquisitions and other line of business restrictions for both banks and bank holding companies.

What do bond rating agencies look at in setting a bond's rating?

1. Profitability of operations 2. Competitive position in the industry 3. Overall financial strength 4. Ability to pay interest and principle in full and on time 5. Issuer's liquidity and additional debt capacity 6. Specific collateral and other bond provisions such as protection provided to bondholders in the event of bankruptcy, takeover, etc.

The US is divided into ____ geographic regions with a Federal Reserve Bank in each region. Each bank may have several branches located throughout the region.

Each member of the board of governors serves one nonrenewable _____-year term

Why would a company wish to offer a putable bond? Why would they not want to do so? Conversly, why would an investor wish to buy a putable bond? Why would an investor not want to buy a putable bond?

A company would wish to offer a putable bond because they pay a low interest rate on that kind of debt - however, if interest rates go up they might have to refinance at a higher rate, and this is the downside from the issuers (borrowers) perspective. Investors like putable bonds because it limits their downside risk, but they will get a lower interest rate on the bond. Tradeoffs.

Currently the Fed sets monetary policy by targeting: A. the Fed funds rate B. The prime rate C. The level of nonborrowed reserves. D. The level of borrowed reserves E. The stock market

The major asset of the Federal Reserve is: A. U.S Treasury securities B. Depository institution reserves C. Currency outside banks D. Vault cash of commercial banks E. Gold and foreign exchange

The duration of a 180-day T-Bill is (in years) A. 0.493. B. 0.246. C. 1. D. 0. E. indeterminate.

A. 0.493 180/365

SEC Rule 144 A does which of the following? A. Allows privately placed investments to be traded on a limited basis B. Allows bond issuers to call their bonds when desired C. Determines the limits of responsibility of bond covenants D. Requires that bonds traded on the NYSE bond market utilize the ABS system E. None of the above

A. Allows privately placed investments to be traded on a limited basis

Which of the following is the major monetary policy making body of the U.S. Federal Reserve System? A. FOMC B. OCC C. FRB bank presidents D. U.S. Congress E. Group of Eight

A. FOMC

A. Fedwire

If the Fed wishes to stimulate the economy it could I. buy U.S. government securities. II. raise the discount rate. III. lower reserve requirements. A. I and III only B. II and III only C. I and II only D. II only E. I, II, and III

A. I and III only

Which of the following would normally be expected to result in an increase in the supply of funds, all else equal? I. The perceived riskiness of all investments decreases. II. Expected inflation increases. III. Current income and wealth levels increase. IV. Near term spending needs of households increase as energy costs rise. A. I and III only B. II and III only C. II, III, and IV only D. I and IV only E. I, II, III, and IV

A. I and III only

Which of the following bond types pays interest that is exempt from federal taxation? A. Municipal bonds B. Corporate bonds C. Treasury bonds D. Convertible bonds E. Both A) and C)

A. Municipal bonds

A Treasury security in which periodic coupon interest payments can be separated from each other and from the principal payment is called a A. STRIP. B. T-Note. C. T-Bond. D. G.O. Bond. E. Revenue Bond.

A. STRIP

The major asset of the Federal Reserve is A. U.S. Treasury securities. B. depository institution reserves. C. currency outside banks. D. vault cash of commercial banks. E. gold and foreign exchange.

A. U.S. Treasury securities

You go to the Wall Street Journal and notice that yields on almost all corporate and Treasury bonds have decreased. The yield decreases may be explained by which one of the following: A. a decrease in U.S. inflationary expectations B. newly expected decline in the value of the dollar C. an increase in current and expected future returns of real corporate investments D. decreased Japanese purchases of U.S. Treasury Bills/Bonds E. increases in the U.S. government budget deficit

A. a decrease in U.S. inflationary expectations

Before 2003 the discount window loan rate was set A. below the target fed funds rate. B. above the target fed funds rate. C. equal to the target fed funds rate. D. equal to the repurchase rate.

A. below the target fed funds

A short-term unsecured promissory note issued by a company is A. commercial paper. B. T-Bills. C. repurchase agreement. D. negotiable CD. E. banker's acceptance.

A. commercial paper

A six-year maturity bond has a five-year duration. Over the next year maturity will decline by 1 year and duration will decline by A. less than one year. B. more than one year. C. 1 year. D. N years. E. N/(N-1) years.

A. less than one year

29. According to the liquidity premium theory of interest rates, A. long-term spot rates are higher than the average of current and expected future short-term rates B. investors prefer certain maturities and will not normally switch out of those maturities C. investors are indifferent between different maturities if the long-term spot rates are equal to the average of current and expected future short-term rates D. the term structure must always be upward sloping E. long-term spot rates are totally unrelated to expectations of future short-term rates

A. long-term spot rates are higher than the average of current and expected future short-term rates

Rates on federal funds and repurchase agreements are stated A. on a bond equivalent basis with a 360 day year. B. on a bond equivalent basis with a 365 day year. C. as a discount yield with a 360 day year. D. as an EAR. E. as a discount yield with a 365 day year.

A. on a bond equivalent basis with a 360 day year

If M > 1 and you solve the following equation to find i: PV * (1 + (i/M))M*N= FV, the i you get will be A. the bond equivalent yield B. the EAR C. the TOE D. the EYE E. the rate per compounding period

A. the bond equivalent yield

Currently the Fed sets monetary policy by targeting A. the fed funds rate. B. the prime rate. C. the level of non-borrowed reserves. D. the level of borrowed reserves. E. the stock market.

A. the fed funds rate

Bearer bonds are bonds A. with coupons attached that are redeemable by whoever has the bond. B. where the registered owner automatically receives bond payments when scheduled. C. in which the issue matures on a series of dates. D. issued in another currency other than the bond issuer's home currency. E. issued in a different country other than the bond issuer's home country.

A. with coupons attached that are redeemable by whoever has the bond

A foreign investor placing money in dollar denominated assets desires a 4% real rate of return. Global inflation is running about 3% and the dollar is expected to decline against her home currency by 1.5% over the investment period. What is her minimum required rate of return? Explain

Approximately 4% + 3% + 1.5% = 8.5% She would have to earn an additional 3% to cover the rising cost of goods and services and an additional 1.5% to cover the loss in value of her dollars since the dollars she will get back will buy fewer units of her home currency. All this is needed in order to preserve a 4% increase in real purchasing power in her home country.

Why would a financial institution use repo markets to finance the purchase of mortgage-backed securities?

As repos are a collateralized loan, financial institutions can use them as a cheap source of funds with which to buy assets (e.g., MBS) - all while using the assets as the collateral. Basically they are using a loan to buy "stuff" while using the "stuff" as collateral on the loan.

How does an increase in interest rates affect a security's duration?

At higher interest rates the PV of more distant cash flows is reduced by a greater amount than near-term cash flows due to compounding. For example, the PV of the 10th cash flow falls more than the PV of the first cash flow if rates rise. This shifts a greater portion of the PV weights to the near-term cash flows, which, in turn, results in a shorter duration. The converse is true for falling interest rates.

Which of the following is not a goal of monetary policy? A. Moderate long-term interest rates B. Stable interest rates C. High employment D. Stable prices E. All of these choices are correct

A corporate bond has a coupon rate of 10% and a required return of 10%. This bond's price is A. $924.18 B. $1000.00 C. $879.68 D. $1124.83 E. not possible to determine from the information given

B. $1,000.00

The _______________ is a nationwide network jointly operated by the Fed and private institutions that electronically process credit and debit transfers of funds. A. Fedwire B. ACH C. CHIPS D. NASDAQ E. SWIFT

B. ACH

In the area of bank supervision, which of the following are functions of the Federal Reserve Banks? I. Examinations of state member banks II. Approval of member bank and bank holding company acquisitions III. Deposit insurance A. I only B. I and II only C. II and III only D. I and III only E. I, II, and III

B. I and II only

Money market securities exhibit which of the following? I. Large denomination II. Maturity greater than one year III. Low default risk IV. Contractually determined cash flows A. I, II, and III B. I, III, and IV C. II, III, and IV D. II and IV E. I, II, III, and IV

B. I, III and IV

Which of the following statements about Euro bonds is/are true? I. The issuer chooses the currency of denomination. II. Spreads on firm commitment offers are lower for Euro bonds than for U.S. bonds. III. Euro bonds typically have denomination of $5,000 and $10,000. IV. Euro bonds are bearer bonds. A. I and II only B. I, III, and IV only C. II, III, and IV only D. II and III only E. I, II, III, and IV are true

B. I, III and IV only

Which of the following is/are true about callable bonds? I. Must always be called at par II. Will normally be called after interest rates drop III. Can be called by either the bondholder or the bond issuer IV. Have higher required returns than noncallable bonds A. I and II only B. II and IV only C. II and III only D. I, II, and III only E. I, II, III, and IV are true

B. II and IV only

From October 1983 to July 1993 the Federal Reserve targeted A. the fed funds rate. B. borrowed reserves. C. nonborrowed reserves. D. M1. E. M3.

B. borrowed reserves

Standard revenue bonds are A. backed by the full taxing authority of the municipality. B. collateralized by the earnings from a specific project. C. bonds backed by mortgages. D. backed by the U.S. Treasury. E. always offered with a best efforts offering.

B. collateralized by the earnings from a specific project

Ceteris paribus, if the Fed was targeting the quantity of money supplied and money demand dropped the Fed would likely ______________. If the Fed was instead targeting interest rates and money demand dropped the Fed would likely _______________. A. increase the money supply; do nothing B. do nothing; decrease the money supply C. decrease the money supply; do nothing D. do nothing; increase the money supply E. increase the money supply; decrease the money supply

B. do nothing; decrease the money supply

A decrease in interest rates will A. decrease the bond's PV. B. increase the bond's duration. C. lower the bond's coupon rate. D. change the bond's payment frequency. E. not affect the bond's duration.

B. increase the bond's duration

In a Treasury auction, preferential bidding status is granted to A. competitive bidders. B. noncompetitive bidders. C. short sale committed bidders. D. commercial bank bidders. E. no group of bidders.

B. noncompetitive bidders

For large interest rate increases, duration _____________ the fall in security prices, and for large interest rate decreases, duration ______________ the rise in security prices. A. overpredicts; overpredicts B. overpredicts; underpredicts C. underpredicts; overpredicts D. underpredicts; underpredicts E. none of the above

B. over predicts; under predicts

The interest rate used to find the present value of a financial security is the A. expected rate of return. B. required rate of return. C. realized rate of return. D. realized yield to maturity. E. current yield.

B. required rate of return

Inflation causes the demand curve for loanable funds to shift to the _____ and causes the supply curve to shift to the _____. A. right; right B. right; left C. left; left D. left; right

B. right; left

The relationship between maturity and yield to maturity is called the __________________. A. loan covenant B. term structure C. bond indenture D. Fisher effect E. DRP structure

B. term structure

Duration is A. the elasticity of a security's value to small coupon changes. B. the weighted average time to maturity of the bond's cash flows. C. the time until the investor recovers the price of the bond in today's dollars. D. greater than maturity for deep discount bonds and less than maturity for premium bonds. E. the second derivative of the bond price formula with respect to the ytm.

B. the weighted average time to maturity of the bond's cash flows

Would you expect the demand curve for businesses to be steeper than the demand curve for funds by the federal government? Explain.

Because businesses have a profit motive and the federal government does not, we would expect business demand for funds to be more sensitive to the interest rate than the federal government. Hence, the demand for funds by businesses would exhibit a flatter curve (more elastic) than the government (less elastic).

Given the functions of the money markets, why is it necessary for money market securities to have a maturity of one year or less and low default risk?

Because these markets are designed to provide safe investments with little or no chance of principle loss. If you could lose principle you would be very unlikely to invest funds that are shortly needed. Low default risk implies that the promised cash flows will in all likelihood be paid in full and on time. The short maturity ensures that the value of these securities will be relatively insensitive to interest rate changes and, also, there is not much time for the issuer's condition to change—this also limits the risk.

What is the difference between General Obligation and Revenue bonds?

Both are bonds issued by state or local municipalities. G.O.s are backed by the full revenue stream of the municipality (often called the General Fund). They typically require voter approval. Revenue bonds are backed by a specific project's revenues, but not the general tax revenues of the municipality. Revenue bonds are thus riskier than G.O.s.

The Fed wishes to expand the money supply. What three things can they do? Which has the most predictable effects? Be specific.

Buy U.S. government securities Decrease the discount rate Decrease reserve requirements Buying U.S. government securities has the most predictable effect

The Fed increases bank reserves in the system by $75 million. If there are no drains the expected change in bank deposits is A. $82.5 million. B. $945 million. C. $750 million. D. $1,500 million. E. $655 million.

C. $750 million (1/0.10)x$75 million

The most liquid of the money market securities are A. commercial paper. B. banker's acceptances. C. T-Bills. D. Fed funds. E. repurchase agreements.

C. T-Bills

In the T-Bill auction process, the competitive bidder is guaranteed a ______________ and a noncompetitive bidder is guaranteed a _______________. A. minimum price; maximum price B. maximum price; minimum price C. maximum price; given quantity D. minimum price; maximum quantity E. none of the above

C. maximum price; given quantity

A security has an expected return less than its required return. This security is A. selling at a premium to par. B. selling at a discount to par. C. selling for more than its PV. D. selling for less than its PV. E. a zero coupon bond.

C. selling for more than its PV

. The following formula is used to calculate the _____________ of a money market investment. [(Pf-P0)/P0]x(360/h) A. EAR B. APR C. single-payment yield D. discount yield E. BEY

C. single-payment yield

If an N year security recovered the same percentage of its cost in PV terms each year the duration would be A. N. B. 0. C. sum of the years/N. D. N!/N2. E. none of the above.

C. sum of the years/N

The benefits of financial institutions to users of funds include a. their making monitoring easier. b. an increase in transaction costs paid by fund users. c. their making funds available with a variety of terms. d. All of the above. e. None of the above.

C. their making funds available with a variety of terms

You would want to purchase a security if P ____________ PV or Err ____________ rrr. A. ≥; ≤ B. ≥; ≥ C. ≤; ≥ D. ≤; ≤

C. ≤; ≥

Case For Fed being independent:

Can pursue longer run objectives, Avoids the political business cycle, Less likely that budget deficits will be inflationary

The twelve Federal Reserve banks perform the following functions:

Clear checks Issue new currency and withdraw damaged currency from circulation Make discount loans Evaluate proposed mergers and applications for banks to expand their activities Liaison between business community and the Fed System Examine bank holding companies and state-chartered member banks Collect data on local business conditions Research topics related to monetary policy

According to current projections, Social Security and other entitlement programs will soon be severely underfunded. If the government decides to cut social security benefits to future retirees and raise social security taxes on all workers, what will probably happen to the supply of funds available to the capital markets? What will be the effect on interest rates?

Cutting future benefits should encourage additional savings by the working public to fund their retirement. This should lead to an increase in the supply of funds available. Raising taxes on the other hand may curtail savings because of the reduction of income. This would reduce the supply of funds available. The net effect on interest rates is indeterminate.

A decrease in reserve requirements could lead to an: A. Increase in bank lending B. Increase in the money supply C. Increase in the discount rate D. Increase in bank lending and an increase in the money supply. E. Increase in bank lending and an increase in the discount rate.

Assume oil prices rise in the United States, generating concerns that inflation may increase. If the Fed wishes to ensure that inflation does not get out of hand, the Fed could: A. Intervene in the currency markets to push the value of the dollar down. B. Decrease the discount rate C. Lower the target Fed funds rate D. Lower the target money supply growth rate. E. Reduce reserve requirements at banks.

An investor requires a 3% increase in purchasing power in order to induce her to lend. She expects inflation to be 2% next year. The nominal rate she much charge is about A. 3% B. 2% C. 1% D. 5% E. 7%

D. 5%

The Check 21 Act effective in October 2004 does which of the following? A. Allows bank customers to better take advantage of bank float B. Requires banks to immediately clear all customer deposits C. Prohibits the Fed from being involved in check clearing to prevent unfair competition with private check clearing agencies D. Authorizes the use of an electronic image to facilitate paperless check clearing E. Eliminates all fees on checking

D. Authorizes the use of an electronic image to facilitate paperless check clearing

A repo is in essence a collateralized A. banker's acceptance. B. certificate of deposit. C. Fed funds loan. D. commercial paper loan. E. Eurodollar deposit.

D. Fed funds loan

Which of the following bond terms are generally positively related to bond price volatility? I. Coupon rate II. Maturity III. ytm IV. Payment frequency A. II and IV only B. I and III only C. II and III only D. II only E. II, III, and IV only

D. II only

Convertible bonds are I. options attached to bonds that give the bondholder the right to purchase stock at a preset price without giving up the bond. II. bonds in which the issue matures (converts) a little each year. III. bonds collateralized with certain types of automobiles. IV. bonds that may be converted to a certain number of shares of stock determined by the conversion ratio. A. I only B. I and II only C. I, II, and III D. IV only E. I and III only

D. IV only

The yield curve is flat. Which of the following is most incompatible with this fact? a. Under the biased expectations theory, traders might think we are heading into a recession. b. Investors do not view long-term bonds as being particularly risky. c. Banks and insurance companies are investing the same at either end of the yield curve. d. Investors feel the economy is about to expand.

D. Investors feel the economy is about to expand

The Fed offers three types of discount window loans. ______________ credit is offered to small institutions with demonstrable patterns of financing needs, _____________ credit is offered for short-term temporary funds outflows, and _____________ credit may be offered at a higher rate to troubled institutions with more severe liquidity problems. A. Seasonal; extended; adjustment B. Extended; adjustment; seasonal C. Adjustment; extended; seasonal D. Seasonal; primary; secondary E. Adjustment; seasonal; extended

D. Seasonal; primary; secondary

A bond that you held to maturity had a realized return of 8%, but when you bought it, it had an expected return of 6%. If no default occurred, which one of the following must be true? A. The bond was purchased at a premium to par. B. The coupon rate was 8%. C. The required return was greater than 6%. D. The coupons were reinvested at a higher rate than expected. E. The bond must have been a zero coupon bond.

D. The coupons were reinvested at a higher rate than expected

Of the following, the most likely effect of an increase in income tax rates would be to A. decrease the savings rate B. decrease the supply of loanable funds C. increase interest rates D. all of the above

D. all of the above

The fed funds rate is the rate that A. banks charge for loans to corporate customers. B. banks charge to lend foreign exchange to customers. C. the Federal Reserve charges on emergency loans to commercial banks. D. banks charge each other on loans of excess reserves. E. banks charge securities dealers to finance their inventory.

D. banks charge each other on loans of excess reserves

A decrease in reserve requirements could lead to an A. increase in bank lending. B. increase in the money supply. C. increase in the discount rate. D. both A and B. E. both A and C.

D. both A and B

A 10-year annual payment corporate coupon bond has an expected return of 11% and a required return of 10%. The bond's market price is A. greater than its PV. B. less than par. C. less than its Err. D. less than its PV. E. $1000.00.

D. less than its PV

Recently oil prices have risen in the U.S, generating concerns that inflation may increase. If the Fed wishes to ensure that inflation does not get out of hand the Fed could: A. intervene in the currency markets to push the value of the dollar down. B. decrease the discount rate. C. lower the target fed funds rate. D. lower the target money supply growth rate. E. reduce reserve requirements at banks.

D. lower the target money supply growth rate

Derivatives are primarily used by investors to a. hedge risk. b. help companies raise money for investments. c. speculate on price movements. d. Only A and C above. e. None of the above.

D. only A and C above

Convexity arises because A. bonds pay interest semiannually. B. coupon changes are the opposite sign of interest rate changes. C. duration is an increasing function of maturity. D. present values are a nonlinear function of interest rates. E. duration increases at higher interest rates.

D. present values are a nonlinear function of interest rates

According to the unbiased expectations theory, A. markets are segmented and buyers stay in their own segment B. liquidity premiums are negative and time varying C. the term structure will most often be upward sloping D. the long-term spot rate is an average of the current and expected future short-term interest rates E. forward rates are less than the expected future spot rates

D. the long-term spot rate is an average of the current and expected future short-term interest rates

In the aftermath of the 2007 Financial crisis, the Fed used several programs to increase liquidity, including ________. A. Expansion of the discount window. B. Setting up the Term Auction Facility C. Lending to investment banks D. Purchase of long-term treasury bonds E. All of these choices are correct.

The Federal Reserve System is charged with: A. Regulating securities exchanges B. Conducting monetary policy C. Providing payment and other services to a variety of institutions D. Setting bank prime rates E. Conducting monetary policy and providing payment and other services to a variety of institutions.

The discount rate is the rate that: A. Banks charge for loans to corporate customers. B. Banks charge to lend foreign exchange to customers. C. Banks charge each other on loans of excess reserves. D. Banks charge securities dealers to finance their inventory. E. The Federal Reserve charges on loans to commercial banks.

The major monetary policy-making arm of the Federal Reserve is the: A. Board of Governors B. Council of Federal Reserve Bank presidents C. Office of the Comptroller of the Currency D. Federal Reserve Bank of New York E. None of these choices are correct.

The primary policy tool used by the Fed to meet its monetary policy goals is: A. Changing the discount rate B. Changing reserve requirements C. Devaluing the currency D. Changing bank regulations E. Open market operations

A bank has $770 million in checkable deposits. The bank has $85 million in reserves. The bank's required reserves are _____________ and its excess reserves are _____________. A. $85 million; $0 B. $770 million; $85 million C. $89 million; $21 million D. $685 million; $8.5 million E. $77 million; $8 million

E. $77 million; $8 million

The rate of return on a repo is A. determined by the rate of return on the underlying collateral. B. strongly affected by the current Fed funds rate at the time of the repo. C. determined at the time of the repo. D. A and C. E. B and C.

E. B and C

An investor wants to be able to buy 4% more goods and services in the future in order to induce her to invest today. During the investment period prices are expected to rise by 2%. Which statement(s) below is/are true? I. 4% is the desired real rate of interest II. 6% is the approximate nominal rate of interest required III. 2% is the expected inflation rate over the period A. I only B. II only C. III only D. I and II only E. I, II, and III are true

E. I, II, and III are true

The Federal Reserve does all but which one of the following? A. Conduct monetary policy B. Supervise and regulate bank activities C. Serve as the commercial bank for the U.S. Treasury D. Operate check clearing and wire transfer facilities E. Insure deposits

E. Insure deposits

A time draft payable to a seller of goods, with payment guaranteed by a bank is a A. commercial paper security. B. T-Bill. C. repurchase agreement. D. negotiable CD. E. banker's acceptance.

E. banker's acceptance

The Federal Reserve System is charged with A. regulating securities exchanges. B. conducting monetary policy. C. providing payment and other services to a variety of institutions. D. setting bank prime rates. E. both B and C.

E. both B and C

Eurodollar CDs would include A. CDs denominated in Euros. B. dollar investments by European entities in the U.S. C. dollars deposited in Caribbean banks. D. dollars deposited in Europe. E. both C & D.

E. both C & C

If your firm enters into an overnight reverse repurchase agreement your firm is A. borrowing Fed funds temporarily. B. selling a security now while agreeing to buy it back tomorrow. C. giving an unsecured loan to the counterparty. D. procuring a banker's acceptance. E. none of the above.

E. none of the above

The ___________ the coupon and the ______________ the maturity; the __________ the duration of a bond, ceteris paribus. A. larger; longer; longer B. larger; longer; shorter C. smaller; shorter; longer D. smaller; shorter; shorter E. none of the above

E. none of the above

The required rate of return on a bond is A. the interest rate that equates the current market price of the bond with the present value of all future cash flows received. B. equivalent to the current yield for non par bonds. C. less than the Err for discount bonds and greater than the Err for premium bonds. D. inversely related to a bond's risk and coupon. E. none of the above.

E. none of the above

The major monetary policy making arm of the Federal Reserve is the A. Board of Governors. B. Council of Federal Reserve Bank Presidents. C. Office of the Comptroller of the Currency. D. Federal Reserve Bank of New York. E. none of the above.

E. none of the above The Federal Open Market Committee is the correct answer

If the Fed decides to purchase bonds for cash, which increases the money supply, people in general will be willing to pay more money for certain things. This would then cause for real purchasing power for everyone do go down, which would severely affect a college student due to them making less money than most and having to pay student loans.

Explain how a change in open market operations can affect a new college graduate.

It is how much the bank must keep in reserves from deposits. If the deposit multiplier is 50%, for a $10 deposit, the bank must keep $5 in reserves.

Explain how the deposit multiplier works.

An increase in Treasury securities held by the Fed leads to a decrease in the money supply.

FALSE

Commercial paper is a short-term obligation of the U.S. government issued to cover government budget deficits and to refinance maturing government debt.

FALSE

Countries with independent central banks are subject to political pressure to conduct monetary policies with short-term expectations.

FALSE

The major asset of the Federal Reserve is currency outside banks and the major liability is U.S. Treasury securities.

FALSE

The majority of money market securities are low-denomination, low-risk investments designed to appeal to individual investors with excess cash.

FALSE

The chair of the Board of Governors is the chair of the __________

FOMC

Which of the following is the major monetary policy-making body of the U.S. Federal Reserve System?

FOMC

Duties of the Board of Governors: Vote on ______ decisions Set the _______________ requirements "Effectively" set the ____________ rate Represent the U.S. in _____________ matters Set ____________ requirements Set the ___________ for Fed bank officers Approve __________________ and specify permissible activities of bank holding companies Research topics related to ____________ policy

FOMC, reserve, discount, economic, margin, salaries, bank mergers, monetary

A callable bond is one where the issuer is required to retire a certain amount of the outstanding bonds each year to ensure that all the bond principle is paid by final maturity.

False

An increase in Treasury securities held by the Fed leads to a decrease in the money supply.

False

Earning a 5% interest rate with annual compounding is better than earning a 4.95% interest rate with semiannual compounding.

False

Euro commercial paper is a short-term obligation of the European Central Bank.

False

Everything else equal, the interest rate required on a callable bond will be less than the interest rate on a convertible bond.

False

Federal Reserve interest rate decisions can be vetoed by the U.S president or the Congress.

False

Federal Reserve interest rate decisions can be vetoed by the U.S. President or the Congress.

False

For a given interest rate change, a 20-year bond's price change will be twice that of a 10-year bond's price change.

False

General obligation municipal bonds are riskier than revenue bonds.

False

If a security's realized return is negative, it must have been true that the expected return was greater than the required return.

False

If you earn 0.5% a month in your bank account, this would be the same as earning a 6% annual interest rate with annual compounding.

False

Ignoring default risk, if a bond's expected return is greater than its required return, then the bond's market price must be greater than the present value of the bond's cash flows.

False

Liquidity risk includes the risk that interest rates may suddenly fall.

False

Revenue bonds are backed by the full revenue of the municipality.

False

The dirty price plus accrued interest is called the clean price of the security.

False

The longer the time to maturity, the lower the security's price sensitivity to an interest rate change, ceteris paribus.

False

The major asset of the Federal Reserve is currency outside banks and the major liability is U.S. Treasury securities.

False

Who are the major suppliers and demanders of funds in the United States and what is their typical position?

Households; suppliers Business; demander Government; demander Foreign; supplier

- They generate income through interest earned on T-bills and government securities - Yes when they are in need, they borrow from congress

How do Federal Reserve Banks generate income? Do they require supplemental funding from Congress?

The discount yield on a T-bill differs from the T-bill's bond equivalent yield (BEY) because I. the discount yield is the return per dollar of face value and the BEY is a return per dollar originally invested. II. a 360-day year is used on the discount yield and the BEY uses 365 days. III. the discount yield is calculated without compounding, and the BEY is calculated with compounding.

I and II only

If the Fed wishes to stimulate the economy, it could I. buy U.S. government securities. II. raise the discount rate. III. lower reserve requirements.

I and III only

Money market securities exhibit which of the following? I. Large denomination II. Maturity greater than one year III. Low default risk IV. Contractually determined cash flows

I, III, and IV

How have recent changes in Discount Window credit programs affected the use of this tool for monetary policy?

In the past, the discount rate was kept below the fed funds rate to allow troubled banks who could not obtain private credit to borrow on an emergency basis. Changes in the announced discount rate signaled to investors about the way the Fed wanted interest rates to move. Under the new rules, however, the discount rate is generally tied to the current fed funds rate target. This largely eliminates the use of the discount rate as a signal to the market. In recent years the FOMC has announced a target fed funds target rate and the Discount Rate is adjusted as the fed funds target is changed. In early 2008 the Fed opened the Discount Window to non-bank brokers and dealers who were experiencing liquidity problems in their mortgage portfolios. Securities firms could exchange some of their illiquid mortgage assets with the Fed for liquid Treasury securities.

The federal reserve decides to start buying trillions of dollars' worth of bonds and mortgages. What happens to interest rates and, more importantly, why?

In the short term, the price of bonds and mortgages goes up (because of the increased demand by the Fed) so corresponding interest rates go down. Longer term, because the Fed has printed more money and released it, there may be inflation and higher interest rates.

What ratings comprise investment-grade bonds and what ratings are used for junk bonds? What are the primary differences between the two? In particular, why are investment-grade bonds more marketable and why are junk bonds issued at all?

Investment-grade bonds are bonds rated AAA (Aaa) down to and including BBB- (Baa3) by S&P and Moody's respectively. All lower ratings are considered speculative grade, or junk bonds. Investment-grade bonds have a lower amount of default risk, particularly during strong economic times. Investment-grade bonds have lower required returns than junk bonds although the credit spreads or default risk premiums (DRPs) vary inversely with economic performance. Investment-grade bonds are more marketable because many institutions are only allowed to hold either only a small amount of junk bonds or no junk bonds at all. Junk bonds carry significantly higher interest rates and are less marketable, but they are still used when a firm cannot obtain a higher rating and still wants to employ debt financing. Junk bonds are used to finance takeovers or so-called highly levered transactions where the acquirer purchases a target firm by borrowing a high percentage of the purchase price. The acquirer usually hopes to be able to quickly buy back some of the debt to reduce the risk. Use of junk bonds allows for larger aggregate level of takeover activity and allows takeovers of larger firms.

How does the finance industry benefit the "real economy?" (e.g., manufacturing firms, the technology industry, the oil industry, etc.).

It facilitates the efficient allocation of resources. Basically, money flows to its best use so resources aren't wasted, people have money when they need it, socially useful stuff gets funded, people with extra money can earn something, etc. Anything along these lines would be correct.

The president of the ____________________ always votes and the remaining 4 voting members rotate amongst the other 11 regions.

New York Fed

The three largest Federal Reserve banks in terms of assets are those of _____________________—combined they hold more than 50% of the assets (discount loans, securities, and other holdings) of the Federal Reserve System.

New York, Chicago, and San Francisco

What are the main responsibilities of the FOMC?

Promote full employment; promote economic growth; promote price stability; promote sustainable pattern of international trade.

The total sale proceeds from selling the stripped components of a Treasury security can sometimes be greater than the fair present value of the Treasury security. Why might this happen?

STRIPS are useful tools to minimize interest rate risk. Because they are zero coupon bonds, a strip held to maturity has no interest rate risk; the investor is certain of the nominal rate of return. Investors are apparently willing to pay a small premium to eliminate this uncertainty.

Explain the logic of the liquidity premium theory of the term structure.

Securities with different maturities are not perfect substitutes so the unbiased expectations theory does not strictly hold. In particular, there is a preference for shorter-term holdings. Thus, to induce investors to invest long-term, a premium interest rate over what could be earned by investing short-term and rolling the investment over must be offered.

Depositors start pulling their money out of banks and, in an effort to retain their deposits, banks increase the interest paid on savings accounts. At the same time, life insurance companies start buying long-term bonds, bidding up their price. What happens to the term structure of interest rates and why?

Short term rates go up because banks are paying higher short term rates, and long term rates go down due to insurance companies bidding up the price of long-term bonds.

Conceptually, why does a bond's price fall when required returns rise on an existing fixed income security?

Since the cash flows are set by contract, the only way a new investor can expect to earn the new higher required return is to pay less for the bond, so the price has to fall. Traders sell the existing bond in favor of newer, higher rate bonds, dropping the price and raising the expected return.

You are an investment banker and one of your large U.S. corporate clients has come to you asking for help deciding on the best market in which to place a sizeable issue of bonds. You could try to issue dollar-denominated bonds, or Euro or yen-denominated bonds. You could also issue in the United States or overseas. What major factors should you consider in advising your client on where to market the issue?

Some of the key variables would include: 1. Interest rates in the various markets 2. Underwriter spreads on different types of bonds 3. Expected changes in currency values; borrowers do not wish to borrow in currencies that are expected to appreciate in value 4. Regulations and taxes in the various countries 5. Ability to market large size issues in a given currency or country

You would first have to decrease the money supply to counter inflation. To do so, one would have to increase interest rates which would lower the available money supply. To counter unemployment you would have to decrease the tax rate and provide cheaper credits, both of which will make domestic markets produce more domestically generating more jobs.

Suppose that oil prices hit an all-time high of $200 a barrel, driving U.S. inflation up to 7 percent per year. At the same time, weak U.S. growth and increasing foreign competition have generated unacceptably high levels of unemployment in the United States. You are the chair of the Federal Reserve. What do you suggest?

What are the main responsibilities of the FOMC?

The FOMC is supposed to conduct monetary policy in a way that promotes: a) Price stability (inflation) b) Full employment c) Economic growth d) Sustainable pattern of international trade

What is the difference between the expected real interest rate and the real rate of interest actually earned?

The expected real rate of interest is the nominal rate minus the expected inflation rate. The actual (or realized) real rate is the nominal rate of interest (absent default) minus the actual rate of inflation.

Why do most money market securities have large denominations?

The market has developed for institutional investors because institutional investors have large enough quantities of money to make it costly for them to not invest their excess funds. For most individual investors, the dollars lost by not keeping fully invested in interest-bearing assets is very minimal.

In October 1987 stock prices fell 22% in one day and bond rates fell also. Use the loanable funds theory to explain what happened.

The worsening of perceived future economic conditions and a likely increase in risk premiums on equities caused a so-called "flight to quality." Reduced supply of funds in stock markets caused falling prices and, as the money moved into bonds, the increased supply of funds available for borrowing pushed bond rates down.

"On the run" Treasury notes and bonds are newly issued securities and "off the run" Treasuries are securities that have been previously issued.

True

360/h times the difference between the face value and the current value divided by the face value gives you the discount yield on an instrument.

True

A bond that has no collateral is called a debenture.

True

A bond with an 11% coupon and a 9% required return will sell at a premium to par.

True

A downward sloping yield curve is often interpreted as an indication that bond traders think we are heading into a recession.

True

A fairly priced bond with a coupon less than the expected return must sell at a discount from par.

True

A ten-year maturity zero coupon bond will have lower price volatility than a ten-year bond with a 10% coupon.

True

A zero coupon bond has a duration equal to its maturity and a convexity equal to zero.

True

About 40% of all U.S. banks are members of the Federal Reserve System.

True

According to the market segmentation theory short-term investors will not normally switch to intermediate- or long-term investments.

True

An improvement in economic conditions would likely shift the supply curve down and to the right and shift the demand curve for funds up and to the right.

True

An increase in the marginal tax rates for all U.S. taxpayers would probably result in reduced supply of funds by households.

True

An investor earned a 5% nominal rate of return over the year. However, over the year, prices increased by 2%. The investor's real rate of return was less than his nominal rate of return.

True

An unsecured bond that has no specific collateral other than the general creditworthiness of the issuing firm is called a debenture.

True

Any security that returns a greater percentage of the price sooner is less price-volatile.

True

Bond ratings use a classification system to give investors an idea of the amount of default rate risk associated with the bond issue.

True

Bonds rated below Baa by Moody's or BBB by S&P are junk bonds.

True

Commercial paper, Treasury bills, and banker's acceptance rates are all quoted as discount yields.

True

Convertible bonds will normally have lower promised yields than straight bonds of similar terms and quality.

True

Eurobonds are bonds denominated in the issuer's home currency, but are issued outside their home country.

True

Everything else equal, an effective annual rate will be greater than the bond equivalent yield on the same security.

True

Fed funds are short-term unsecured loans while repos are short-term secured loans.

True

Federal Reserve Board members are appointed by the U.S. President and confirmed by the Senate for a non-renewable 14-year term.

True

For any positive interest rate the present value of a given annuity will be less than the sum of the cash flows and the future value of the same annuity will be greater than the sum of the cash flows.

True

Higher interest rates lead to lower bond convexity, ceteris paribus.

True

If the FOMC wished to generate faster economic growth, they could issue a policy directive to the Federal Reserve Board Trading desk to purchase U.S. government securities.

True

If the coupon payment of a bond goes up, its price becomes less sensitive to changes in interest rates.

True

In a Treasury bond quote with a $1000 face value, you find the bid is equal to 100:24 and the ask is equal to 100:26. You could buy this bond for $1008.125.

True

In the T-Bill secondary market the ask yield will normally be less than the bid yield.

True

Maturity intermediation refers to the ability of financial institutions to connect suppliers of funds, who only want to lend out on a short-term basis, with users of funds who want long-term loans.

True

Money markets exist to help reduce the opportunity cost of holding cash balances.

True

Nationally chartered banks are required to become members of the Federal Reserve System.

True

Real interest rates include anticipated inflation.

True

Simple interest calculations assume that interest earned is never reinvested.

True

T-notes and T-bonds are issued in minimum denominations of $1,000 or multiples of $1,000.

True

T/F: About 34 percent of all U.S banks are members of the Federal Reserve System.

True

T/F: Nationally chartered banks are required to become members of the Federal Reserve System.

True

The Federal Reserve facilitates check cashing across the 50 states.

True

The duration of a four-year maturity 10% coupon bond is less than four years.

True

The greater a security's coupon, the lower the security's price sensitivity to an interest rate change, ceteris paribus.

True

The higher a bond's coupon, the lower the bond's price volatility.

True

The largest secondary money market in the United States is the secondary market for T-Bills.

True

The liquidity offered on secondary markets can affect the price of a security offered in primary markets.

True

The term structure of interest rates is the relationship between interest rates on bonds similar in terms except for maturity.

True

The traditional liquidity premium theory states that long-term interest rates are greater than the average of expected future interest rates.

True

When the quantity of a financial security supplied or demanded changes at every given interest rate in response to a change in a factor, this causes a shift in the supply or demand curve.

True

With a zero interest rate both the present value and the future value of an N payment annuity would equal N x payment.

True

Who are the major participants in money markets?

U.S. Treasury Commercial Banks Federal Reserve Brokers and dealers Corporations Other financial institutions

Case Against fed being independent:

Undemocratic, Hinders coordination of monetary and fiscal policy, Fed has not always done a good job

- Conducting monetary policy - Supervising and regulating depository institutions - Maintaining the stability of the financial system - Providing payment and other financial services to the U.S. government, the public, financial institutions, and foreign official institutions

What are the four major functions of the Federal Reserve System?

To formulate policies to promote full employment, economic growth, price stability, and sustainable patter of international trade

What are the main responsibilities of the FOMC?

- They plan to aim for an average of 2% inflation per year but will allow it to go moderately higher. They shifted its approach to employment to focus on racial disparity. - I believe that this means that interest rates are going to stay low for a much longer time. Furthermore I believe it will greatly increase employment

What policy changes relative to inflation and labor did the Fed just announce? What impact do you see that having?

It is difficult to predict the level of excess reserves and the willingness of the banks to make loans instead of making investment, plus the uncertainty of the public redepositing into the banking system. This shows why it is unpredictable

Why do changes in reserve requirements have less predictable effects on the money supply in comparison to changes in open market operations?

Before 2003 the discount window loan rate was set A. below the target Fed funds rate. B. above the target Fed funds rate. C. equal to the target Fed funds rate. D. equal to the repurchase rate.

Currently the Fed sets monetary policy by targeting A. the Fed funds rate. B. the prime rate. C. the level of non-borrowed reserves. D. the level of borrowed reserves. E. the stock market.

If the Fed wishes to stimulate the economy, it could I. buy U.S. government securities. II. raise the discount rate. III. lower reserve requirements. A. I and III only B. II and III only C. I and II only D. II only E. I, II, and III

Financial markets

a type of structure through which funds flow primary or secondary money markets or capital markets

10. Critics of the current system of Fed independence contend that a. the current system is undemocratic. b. voters have too much say about monetary policy. c. the president has too much control over monetary policy on a day-to-day-basis. d. the Board of Governors is held responsible for policy missteps.

a. the current system is undemocratic.

From October 1983 to July 1993, the Federal Reserve targeted A. the Fed funds rate. B. borrowed reserves. C. nonborrowed reserves. D. M1. E. M3.

The Fed funds rate is the rate that

banks charge each other on loans of excess reserves.

If the Fed is targeting interest rates and money demand increases, an appropriate policy response would be to A. increase reserve requirements. B. increase the discount rate. C. buy U.S. Treasury securities from government bond dealers. D. increase government spending. E. none of the options

The Fed increases bank reserves in the system by $75 million. If there are no drains, the expected change in bank deposits is A. $82.5 million. B. $945 million. C. $750 million. D. $1,500 million. E. $655 million.

if the fed wishes to stimulate the economy, it could I. buy U.S. government securities II. raise the discount rate III. lower reserve requirements a. I and II only b. I, II, and III c. I and II only d II only e. II and III only

Members of Congress indirectly influence monetary policy through their ability to: a. withhold appropriations from the Board of Governors. b. withhold appropriations from the Federal Open Market Committee. c. propose legislation that would change the structure of the Federal Reserve. d. appoint the Federal Reserve bank presidents.

c. propose legislation that would change the structure of the Federal Reserve.

Fed chair (can/cannot) be reappointed to this position

can

National banks are ______________ banks chartered by the Office of the Comptroller of the Currency

commercial

money markets

markets that trade debt securities with maturities less than a year CDs and US treasury bonds little to no risk of capital loss low return

Each of the Federal Reserve banks is a quasi-public (part private, part government) institution owned by the ______________________________ in its district that are members of the Federal Reserve System

private commercial banks

four seats on the federal open market committee (FOMC) are allocated to federal reserve bank presidents on an annual rotating basis

true

if the FOMC wished to generate faster economic growth, they could issue a policy directive to federal reserve board trading desk to purchase U.S. government securities

true

in the t-bill secondary market the ask yield will normally be less than the bid yield

true

primary markets

when users of funds raise money by issuing financial instruments IPO 1st time to market from company between users of funds, underwriting with investment bank, and initial suppliers of funds

As a corporate treasurer who is unsure how soon funds will be needed, which type of money market investment might you prefer? Explain the trade-offs. Would your answer differ if you had a definite time period during which you would not need the money? Explain.

If liquidity is a primary concern then T-Bills may be the best choice because they are by far the most liquid. They also typically offer the lowest rate of return because of government backing and high liquidity. Fed Fund loans may be a slightly higher rate alternative, but are very short term. If you knew for certain (or with high probability) that the funds will not be needed, then term repos, commercial paper, or banker's acceptances may offer better rates of return.

Off-the-run Treasury bonds have higher prices than on-the-run Treasury bonds.

False

Finance

giving money from people with excess to people that need it

Bank A has an increase in deposits of $20 million dollars and all bank reserve requirements are 10 percent. Bank A loans out the full amount of the deposit increase that is allowed. This amount winds up deposited in Bank B. Bank B lends out the full amount possible as well and this amount winds up deposited in Bank C. What is the total increase in deposits resulting from these three banks?

$54.20 million, 20 + (20 × 0.90) + (18 × 0.90)

If a $10,000 par T-bill has a 3.75 percent discount quote and a 90-day maturity, what is the price of the T-bill to the nearest dollar?

$9,906., 10,000 × [1 − (0.0375 × 90/360)] = 9,906

How do Federal Reserve Banks generate income? Do they require supplemental funding from Congress?

*Interest earned on government securities acquired in open market transactions *Interest earned on reserves that banks are required to deposit at the Fed *Fees from services and membership fees *The Fed generates positive net income and does not need supplemental funding (Note: The Fed now pays interest on excess reserve balances, which reduces the Fed's profitability.)

risks of financial institutions

-credit -country or sovereign -off-balance-sheet -operational -foreign exchange -interest rate -liquidity -insolvency -interest rate -market -technology

SEC: Securities and Exchange Commission

-disclosure requirements for publicity traded firms -insider information enforcement

examples of derivative securities

-exchange listed derivatives: many options, future contracts -over the counter derivatives: forward contracts, forward rate agreements, swaps, and securitized loans

foreign exchange

-fx markets: trading one currency for another -spot fx: the immediate exchange of currencies at the current exchange rates -forward fx: the exchange of currencies in the future on a specific date at a pre-specified exchange rate

regulation of financial institutions

-heavily regulated to protect society at large from market failures -regulations impose a burden on financial institutions and, before the financial crisis, most regulatory changes were deregulatory in nature -regulators attempt to max. social welfare while minimizing the burden imposed by regulation -ex: capital requirements, regulate what pension funds may invest in, and mutual funds

financial institutions benefit overall economy

-provides efficient credit allocation -conduit through which Federal Reserve conducts monetary policy -provide for intergenerational wealth transfers -provide payment services

financial institutions benefit supplier of funds

-reduce monitoring costs -increase liquidity and lower price risk -reduce transaction costs -provide maturity intermediation -provide denomination intermediation

Federal Reserve System

-regulates all depository institutions -examines all books of banks -sets reserve requirements

financial institutions

-suppliers channel money to users of funds distinguished by: whether they accept deposits(depository vs non depository) and whether they receive contractual payments from customers

reasons to use derivative security

-to transfer (or hedge) risk between market participants -to make bets (speculation)

The 12 Federal Reserve Banks perform what functions?

1. Assist in monetary policy 2. Supervise and regulate district state chartered member banks and bank holding companies 3. Serve as commercial bank for U.S. Treasury 4. Distribute and replace currency 5. Provide check-clearing services 6. Provide wire transfer services 7. Provide economic research for monetary policy

What are the four major functions of the Federal Reserve System?

1. Conducting monetary policy 2. Supervising and regulating depository institution 3. Maintaining the stability of the financial system 4. Providing payment and other services to institutions

Federal Reserve Act of _______ created the Federal Reserve System.

1913

You buy a $10,000 par Treasury bill at $9,575 and sell it 60 days later for $9,675. What was your EAR?

6.52 percent, (9,675/9,575)(365/60) − 1 = .06524 = 6.52%

How does a repo differ from a Fed Funds transaction? How do their rates compare?

A repo is basically a collateralized loan whereas Fed Funds are uncollateralized. The repo rate will typically be slightly below the equivalent maturity Fed funds rate because the repos are collateralized. Repos are likely to be for longer maturity than Fed funds, although both may involve transfers of deposits held at the Fed. Fed Funds loans can be arranged more quickly because no change of title of securities is involved.

Primary markets are: A. where securities are issued for the first time B. where securities trade after they are initially issued C. any market that serves as a primary source of funds for a given entity D. safer than secondary markets

A. Where securities are issued for the first time

Bank A has an increase in deposits of $20 million dollars and all bank reserve requirements are 10%. Bank A loans out the full amount of the deposit increase that is allowed. This amount winds up deposited in Bank B. Bank B lends out the full amount possible as well and this amount winds up deposited in Bank C. What is the total increase in deposits resulting from these three banks? A. $48.00 million B. $54.20 million C. $56.33 million D. $57.10 million E. $60.00 million

B. $54.20 million 20+(20x0.90)+(18x0.90)

Callable bonds have lower required yields than similar convertible bonds, ceteris paribus.

False

The discount yield on a T-Bill differs from the T-bill's bond equivalent yield (BEY) because I. The discount yield is the return per dollar of face value and the BEY is a return per dollar originally invested. II. A 360-day year is used on the discount yield and the BEY uses 365 days. III. The discount yield is calculated without compounding, the BEY is calculated with compounding. A. I only B. II only C. I and II only D. II and III only E. I, II, and III

C. I and II only

With respect to private placements of bonds, which of the following is correct? I. Issuers of privately placed bonds tend to be less well known than public bond issues. II. Interest rates on privately placed debt tend to be higher than for similar public issues. III. Purchasers of privately placed debt have assets of at least $100 million. IV. Once bonds have been privately placed, the original buyers must hold the bonds until maturity. A. I only B. I and III only C. I, II, and III only D. I, III, and IV only E. I, II, III, and IV

C. I, II, and III only

A banker's acceptance is A. a time draft drawn on the exporter's bank. B. a method to help importers evaluate the creditworthiness of exporters. C. a liability of the importer and the importer's bank. D. an add on instrument. E. for greater than 1 year maturity.

C. a liability of the importer and the importer's bank

C. buy U.S. Treasury securities from government bond dealers

The major liability of the Federal Reserve is A. U.S. Treasury securities. B. depository institution reserves. C. currency outside banks. D. vault cash of commercial banks. E. gold and foreign exchange.

C. currency outside banks

When an investment banker purchases an offering from a bond issuer and then resells it to the public this is known as a A. rights offering. B. private placement. C. firm commitment. D. best efforts. E. standby offering.

C. firm commitment

A 10-year maturity coupon bond has a 6-year duration. An equivalent 20-year bond with the same coupon has a duration A. equal to 12 years. B. less than 6 years. C. less than 12 years. D. equal to 6 years. E. greater than 20 years.

C. less than 12 years

Interest income from Treasury securities is ________________, and interest income from municipal bonds is always ________________. A. exempt from federal taxes; exempt from all taxes B. taxable at the state level only; exempt from state taxes only C. taxable at federal level only; exempt from federal taxes D. taxable at the state level; taxed at the federal level E. totally tax exempt; exempt from state taxes

C. taxable at federal level only; exempt from federal taxes

Why do changes in reserve requirements have less predictable effects on the money supply in comparison to changes in open market operations?

Changing the reserve requirements changes the multiplier effect and large changes in the money supply may result. However, it is difficult to predict the level of excess reserves held by banks, the willingness of banks to make loans instead of investments, and the uncertainty about how much money the public will redeposit into the banking system. Hence, the true new multiplier is difficult to estimate; hence, the net effect on the money supply is somewhat unpredictable.

An annuity and an annuity due with the same number of payments have the same future value if r = 10%. Which one has the higher payment? A. They both must have the same payment since the future values are the same B. There is no way to tell which has the higher payment C. An annuity and an annuity due cannot have the same future value D. The annuity has the higher payment E. The annuity due has the higher payment

D. The annuity has the higher payment

Which one of the following bonds is likely to have the highest required rate of return, ceteris paribus? A. AAA-rated noncallable corporate bond with a sinking fund B. AA-rated callable corporate bond with a sinking fund C. AAA-rated callable corporate bond with a sinking fund D. High-quality municipal bond E. AA-rated callable corporate bond without a sinking fund

E. AA-rated callable corporate bond without a sinking fund

Which one of the following statements about commercial paper is NOT true? Commercial paper issued in the United States A. is an unsecured short-term promissory note. B. has a maximum maturity of 270 days. C. is virtually always rated by at least one ratings agency. D. has no secondary market. E. carries an interest rate above the prime rate.

E. carries an interest rate above the prime rate

The largest type of municipal bonds outstanding are _______________. A. revenue bonds B. industrial development bonds C. Treasury STRIPS D. convertible bonds E. general obligation bonds

E. general obligation bonds

Classify each of the following in terms of their effect on interest rates (increase or decrease): I. Perceived risk of financial securities increases II. Near term spending needs decrease III. Future profitability of real investments increases A. I increases, II increases, III increases B. I increases, II decreases, III decreases C. I decreases, II increases, III increases D. I decreases, II decreases, III decreases E. none of the above

E. none of the above

The primary policy tool used by the Fed to meet its monetary policy goals is: A. changing the discount rate. B. changing reserve requirements. C. devaluing the currency. D. changing bank regulations. E. open market operations.

E. open market operations

The discount rate is the rate that A. banks charge for loans to corporate customers. B. banks charge to lend foreign exchange to customers. C. banks charge each other on loans of excess reserves. D. banks charge securities dealers to finance their inventory. E. the Federal Reserve charges on loans to commercial banks.

E. the Federal Reserve charges on loans to commercial banks

An increase in the perceived riskiness of investments would cause a movement up along the supply curve.

False

At equilibrium a security's required rate of return will be less than its expected rate of return.

False

The fed selects one commercial banker to serve on the ______________________

Federal Advisory Council

What is the difference between a discriminating auction and a single-price auction? How is the final price determined in a single-price auction? Why did the Treasury switch to a single-price auction?

In a discriminating price auction, different bidders pay a different price for the same securities. In a single-price auction, all successful bidders pay the same price, regardless of the specific price they bid. The final price is set as the lowest price of the competitive bids accepted. The Treasury switched to single-price auctions because they found that in single-price auctions, there tended to be more winning bidders and that bidders bid more aggressively (made higher bids), resulting in overall higher bid prices and revenues for the government.

Explain how the deposit multiplier works.

Suppose the Fed increases bank reserves via open market operations. The bank now has too many excess reserves that earn no interest, so it seeks to loan the funds out. The lent funds are deposited in another bank. The second bank keeps some funds in the form of required reserves and lends the rest. The second loan is also re-deposited at another bank and a portion of those funds are lent again, etc., etc. At the limit a change in reserves increases deposits by the amount equal to Δreserves x 1/reserve requirement.

-Assistance in the conduct of monetary policy - Supervision and regulation - Consumer protection and community affairs - Government services - New currency issue - Check clearing - Wire transfer services - Research services

The 12 Federal Reserve Banks perform what functions?

What does the 2004 Check 21 law allow? Why was this law passed? Does it benefit the customer or banks? Explain.

The Check 21 law authorizes the use of an image substitute document to replace a paper check and helps move the financial system toward paperless, electronic transfers. The law allows the use of an electronic image as a substitute for a paper check. It was passed because of the September 11 attacks that grounded cargo planes that fly checks all over the country, the rising processing costs of paper checks brought about by declining volume, and industry consolidations of processors. Switching to electronic check images saves an estimated $3 billion per year for the banking industry. If these cost savings are passed on to customers in the form of better deposit rates or reduced checking fees, customers benefit. However, the law facilitates speedier clearing of checks that reduces customer's ability to "play the float." The float is the time period between tendering a check until your account is debited, which used to be as much as several days. Checks may now instantly clear.

The three things the fed can do to expand the money supply is: 1. Reserve requirements 2. Discount rate 3. Open Market Operations. The most predictable of these three ways is the discount rate. When interest rates are lowered, it is cheaper to borrow money, meaning they would be increasing the money supply.

The Fed wishes to expand the money supply. What three things can it do? Which has the most predictable effects? Be specific.

Can the actual real rate of interest be negative? When? Can the expected real rate be negative?

The actual real rate can be negative when actual inflation is greater than the nominal rate of interest. The expected real rate normally must be positive because investors build into the nominal rate a premium for expected inflation. However, recently in Japan, expected real rates have been negative on bank accounts and have still attracted funds. Investors in this case are willing to pay a (small) storage premium to banks for the convenience and safe keeping that bank accounts provide.

Which would have a longer duration: a) a 5-year fully amortized installment loan with semiannual payments or b) a 5-year semiannual payment bond, ceteris paribus. Why?

The bond will have a longer duration because you receive interest payments only until maturity, whereas the amortizing loan pays principle and interest throughout the life of the loan. Hence, the loan pays more (%) money back sooner. That makes the loan less volatile than the bond.

Why did the Fed switch from increasing rates prior to 2007 to reducing interest rates in 2007 and 2008?

The growing problems in the housing markets led to problems in the subprime mortgage markets. Many financial institutions held or guaranteed mortgage-backed securities which were becoming increasingly risky in 2007 and early 2008. It became apparent that banks had made too many risky mortgage-backed loans with borrowed funds. Lenders to these institutions were wary of accepting mortgage collateral causing short-term funding problems at banks and investment banks. The Fed began to aggressively cut interest rates to help the mortgage market, particularly the subprime portion, and to encourage economic growth. Banks were cutting risky lending because of the problems in their mortgage loans and mortgage-backed securities and the resulting "credit crunch" (bank's unwillingness to lend) led to rapidly slowing economic growth.

What is the loanable funds theory of interest rates?

The level of interest rates in the economy is set by economic agents' willingness to make funds available to capital markets and borrowers' demand for funds in the capital markets at various interest rates. The interest rate where the supply of funds matches demand for funds is the equilibrium interest rate.

Explain the effects of coupon and maturity on volatility.

The longer the maturity, the greater the price sensitivity of an asset with respect to interest rate changes. The larger the coupon payments, or any interim cash flows, the lower the price sensitivity of an asset with respect to asset changes. In general, any security that returns a greater proportion of an investment more quickly will be less price-volatile because this allows the investor to respond to the interest rate change, minimizing the opportunity cost.

Explain the market segmentation theory of the term structure.

This argument is actually a more extreme version of the liquidity premium argument. Not only are different maturity securities not perfect substitutes, broadly speaking they are not substitutes at all, and one cannot imply that supply and demand conditions in one maturity segment affect supply and demand conditions in another segment. Banks are usually hypothesized as short-term investors and pension funds and life insurers are cast in the role of long-term investors. Both are myopic in that they ignore yields outside of their normal sector. No explanation of why other less myopic investors do not enter the market to exploit un-arbitraged advantages among rate differentials is put forth. Presumably, in innovative capital markets, participants would not leave profit opportunities unexploited.

Suppose that oil prices hit an all-time high of $200 a barrel, driving U.S. inflation up to 7% per year. At the same time, weak U.S. growth and increasing foreign competition has generated unacceptably high levels of unemployment in the United States. You are the Chair of the Federal Reserve. What do you suggest?

This is a very difficult scenario for the Fed Chair. It is called stagflation and the combination of high inflation and unemployment reduces the effectiveness of any monetary policy action to provide sustained relief to the economy's problem. Increasing bank excess reserves and lowering interest rates may reduce unemployment temporarily, but these actions will also likely exacerbate inflation, drive up wages, and with a higher labor supply cost, will eventually drive unemployment back up. The end result is that the employed and the unemployed face higher prices. Alternative policy actions may include fiscal spending, removing the factor(s) causing the problems (such as a supply constraint causing a lack of oil availability), or perhaps stimulating greater global growth to get U.S. domestic demand growing.

Accrued interest owed to the bond seller increases as the next coupon payment date approaches.

True

All else equal, the holder of a fairly priced premium bond must expect a capital loss over the holding period.

True

Four seats on the FOMC are allocated to Federal Reserve Bank presidents on an annual rotating basis.

True

T/F: One of the objectives of the FOMC is to formulate policies to promote 100 percent employment

True

T/F: The monetary base is the amount of coin and currency in circulation plus reserves.

True

T/F: The seven members of the Board of Governors of the Federal Reserve System serve 14-year nonrenewable terms. Each board member is appointed by the president and confirmed by the Senate.

True

T/F:Federal Reserve Board members are appointed by the U.S president and confirmed by the Senate for a nonrenewable 14-year term.

True

TIPS are a Treasury offering that protects investors from unexpected increases in inflation.

True

The lower the level of interest rates, the greater a bond's price sensitivity to interest rate changes.

True

The monetary base is the amount of coin and currency in circulation plus reserves.

True

The real interest rate is the increment to purchasing power that the the lender earns in order to include him or her to forego current consumption.

True

The risk that a security cannot be sold at a predictable price with low transaction costs at short notice is called liquidity risk.

True

Is the realized rate of return related to the expected return? The required return? Explain.

Yes and no. The required return determines the initial size of the coupon and the offer price and, as the rrr changes, forces the market price to change. As the buy and sell prices and reinvestment rates on coupons change, the realized return will be affected. However, the required return is an ex-ante rate designed to compensate investors for risk. The realized return may be less than or more than the expected or the required. That is the nature of risk. If you repeated the same investment with the same terms over and over, you should, on average, earn a realized return equal to the required return.

Is there a trade-off between controlling domestic inflation and maintaining a sustainable pattern of international trade?

Yes, if the United States curtails money supply growth to the point that U.S. inflation is lower than inflation elsewhere, the dollar will tend to appreciate against foreign currencies. With a strong dollar the United States will tend to import more and export less leading to a large and potentially unsustainable trade balance.

You find the following quote for a corporate bond ($1,000 par, pays interest semiannually): Issuer: Home Depot Symbol: HD.GF Coupon: 4.625% Maturity: Aug 2015 Moody's/S&P/Fitch:Baal/BBB+/BBB+ High: 98.281 Low: 97.362 Last: 97.726 Change: 0.286 Yield %: 5.49% a) What was the range of the price for the given day? b) How many dollars would you receive from each coupon payment? c) Approximately what risk level is implied by the bond rating? d) What would have been the Last Price on the day before?

a) The high price was 98.281% x 1000 = $982.81, the low price for the day was 97.362% x 1000 = $973.62 for a range of $9.19 b) $ Coupon = (4.625%/2) x 1000 = $23.125 received every six months c) The bond rating implies this is a medium grade bond that lacks outstanding protection characteristics, in other words the bond issuer may have difficulty making the promised payments in full and on time, particularly if the economy does not perform well. d) The Last Price in the quote is 97.726 and the change was +0.286 so the prior Last quote was 97.726 - 0.286 = 97.44 or 97.44% x 1000 = $974.40

You are considering purchasing 5-year corporate bonds as an investment. You have a choice of terms available. Which of the following terms would you find desirable, ceteris paribus? How does each feature affect the bond's required rate of return? Explain.

a) call feature b) convertible feature c) warrants d) sinking fund e) debenture a) The call feature favors the bond issuer and unless the issue offers the investor a sufficiently higher rate of return, he would not want this feature. b) The convertible feature allows the bondholder to convert to stock if they so choose. This sounds like a good deal but the quid pro quo is a reduced promised yield. This may be desirable if you believe the stock will increase sufficiently in price. c) Warrants allow the bondholder to purchase stock at a fixed price, and unlike convertible bonds, the bondholder does not have to surrender the bond. Offering warrants allows the bondholder to offer a lower required rate of return. This may be desirable if you believe the stock will increase sufficiently in price. d) Sinking funds help ensure that the bond issuer will be able to pay off the principle when due. If these are term bonds and the issuer sets aside money each year to ensure availability of funds when the principle is due, then the bondholders clearly benefit from this feature. Of course, this reduces the required promised yield. If the sinking fund requires retiring a certain percentage of the bonds each year, then the idea is not unambiguously better for bondholders. It may be that your bond is retired when rates have fallen and you must then reinvest at lower interest rates. e) The term debenture indicates that the bond has no specific collateral (other than the earnings and cash flows of the firm). The lack of security adds to bondholder risk and may imply a higher required rate of return than bonds with better collateral.

You are an investor in fixed income securities. You have a strong belief that interest rates are going to rise sharply. Given this belief, which of the following trades makes the LEAST financial sense? a. Buy long-term bonds. b. Buy gold. c. Buy money market securities. d. Buy risky bonds (low credit quality).

a. buy long-term bonds

A par bond: a. Is one whose price is equal to its face. b. Is one whose coupon is different from its yield-to-maturity. c. Is a recently issued bond. d. Only A and B.

a. is one whose price is equal to its face

Ceteris paribus, if the Fed was targeting the quantity of money supplied and money demand dropped, the Fed would likely ______________. If the Fed was instead targeting interest rates and money demand dropped, the Fed would likely _______________. A. increase the money supply; do nothing B. do nothing; decrease the money supply C. decrease the money supply; do nothing D. do nothing; increase the money supply E. increase the money supply; decrease the money supply

a time draft payable to a seller of goods, with payment guaranteed by a bank is a a. commercial paper security b. banker's acceptance c. repurchase agreement d. negotiable CD e. t-bill

2. Which of the following is NOT an entity of the Federal Reserve System? a. Federal Reserve Banks b. The Comptroller of the Currency c. The Board of Governors d. The Federal Open Market Committee

b. The Comptroller of the Currency

If the federal reserve were to sell its assets, the results would likely include a. a decrease in interest rates. b. an increase in interest rates. c. a general increase in non-debt asset prices. d. increased inflation.

b. an increase in interest rates

A callable bond a. can be converted to stock by the investor at a preset rate. b. can be purchased for a pre-determined price by the issuing company. c. can be sold for a pre-determined price by the investor. d. is generally more expensive than the equivalent plain vanilla bond. e. is usually not backed by any kind of collateral.

b. can be purchased for a pre-determined price by the issuing company

A securitized short-term, unsecured loan issued by a corporation is a. a Bankers acceptance. b. commercial paper. c. a negotiable CD. d. a repurchase agreement. e. asset-backed commercial paper.

b. commercial paper

The Fed changes reserve requirements from 10 percent to 14 percent, thereby eliminating $750 million in excess reserves. The total change in deposits (with no drains) would be (rounded) A. $7.917 billion. B. $6.630 billion. C. $5.357 billion. D. $4.934 billion. E. none of the options.

The Fed changes reserve requirements from 10 percent to 7 percent, thereby creating $900 million in excess reserves. The total change in deposits (with no drains) would be A. $3,000 million. B. $15,625 million. C. $12,857 million. D. $3,795 million. E. none of the options.

7. Members of the Board of Governors are a. chosen by the Federal Reserve Bank presidents. b. appointed by the newly elected president of the United States, as are cabinet positions. c. appointed by the president of the United States and confirmed by the Senate as members resign or their terms expire. d. never allowed to serve more than 7-year terms.

c. appointed by the president of the United States and confirmed by the Senate as members resign or their terms expire.

Standard revenue bonds are a. backed by the full taxing authority of the municipality. b. backed by mortgages. c. are collateralized by the earnings of a specific project. d. Backed by the U.S. Treasury. e. less risky than general obligation bonds.

c. are collateralized by the earnings of a specific project

4. Which of the following functions are not performed by any of the twelve regional Federal Reserve Banks? a. check clearing b. conducting economic research c. setting interest rates payable on time deposits d. issuing new currency

c. setting interest rates payable on time deposits

All banks can use the ______________ function of the Fed and can obtain ________________ from the Fed

check-clearing, discount loans

A decrease in reserve requirements could lead to an A. increase in bank lending. B. increase in the money supply. C. increase in the discount rate. D. increase in bank lending and an increase in the money supply. E. increase in bank lending and an increase in the discount rate.

Recently, oil prices have risen in the United States, generating concerns that inflation may increase. If the Fed wishes to ensure that inflation does not get out of hand, the Fed could A. intervene in the currency markets to push the value of the dollar down. B. decrease the discount rate. C. lower the target Fed funds rate. D. lower the target money supply growth rate. E. reduce reserve requirements at banks.

The Check 21 Act, effective in October 2004, does which of the following? A. Allows bank customers to better take advantage of bank float B. Requires banks to immediately clear all customer deposits C. Prohibits the Fed from being involved in check clearing to prevent unfair competition with private check clearing agencies D. Authorizes the use of an electronic image to facilitate paperless check clearing E. Eliminates all fees on checking

The Fed funds rate is the rate that A. banks charge for loans to corporate customers. B. banks charge to lend foreign exchange to customers. C. the Federal Reserve charges on emergency loans to commercial banks. D. banks charge each other on loans of excess reserves. E. banks charge securities dealers to finance their inventory.

a short-term unsecured promissory note issued by a company is a. a banker's acceptance b. a repurchase agreement c. a negotiable CD d. commercial paper e. a t-bill

the fed funds rate is the rate that a. banks charge for loans to corporate customers b. banks charge securities dealers to finance their inventory c. the federal reserve charges on emergency loans to commercial banks d. banks charge each other on loans of excess reserves e. banks charge to lend foreign exchange to customers

the major asset of the federal reserve is a. depository institution reserves b. currency outside banks c. vault cash of commercial banks d. U.S. treasury securities e. gold and foreign exchange

the discount rate is the rate that a. banks charge to lend foreign exchange to customers b. banks charge for loans to corporate customesr c. banks charge each other on loans of excess reserves d. the federal reserve charges on loans to commercial banks e. banks charge securities dealers to finance their inventory

3. The president from which Federal Reserve Bank always has a vote in the Federal Open Market Committee? a. Philadelphia b. Boston c. San Francisco d. New York

d. New York

6. Banks subject to reserve requirements set by the Federal Reserve System include a. only nationally chartered banks. b. only banks with assets less than $100 million. c. only banks with assets less than $500 million. d. all banks whether or not they are members of the Federal Reserve System.

d. all banks whether or not they are members of the Federal Reserve System.

Which of the following is true for zero-coupon loans? a. They are also called "discount bonds." b. Money market instruments fall under this category. c. They make no coupon payments. d. All of the above. e. Only A and C above.

d. all of the above

A decrease in the reserve requirements could lead to a. a decrease in bank lending. b. an increase in the Fed's discount rate. c. a decrease in the money supply. d. an increase in the money supply. e. deflation.

d. an increase in the money supply

9. Each Fed bank president attends FOMC meetings; although only ___________ Fed bank presidents vote on policy, all _______________ provide input. a. three; ten b. five; ten c. three; twelve d. five; twelve

d. five; twelve

The interest rate that relates the promised cash flow of a bond to its current price is most commonly called the a. real interest rate. b. discount rate. c. simple interest rate. d. yield-to-maturity. e. IRR.

d. yield-to-maturity

The Federal Reserve does all but which one of the following? A. Conducts monetary policy B. Supervises and regulates bank activities C. Serves as the commercial bank for the U.S. Treasury D. Operates check clearing and wire transfer facilities E. Insures deposits

The major monetary policy-making arm of the Federal Reserve is the A. Board of Governors. B. Council of Federal Reserve Bank presidents. C. Office of the Comptroller of the Currency. D. Federal Reserve Bank of New York. E. none of the options

The primary policy tool used by the Fed to meet its monetary policy goals is A. changing the discount rate. B. changing reserve requirements. C. devaluing the currency. D. changing bank regulations. E. open market operations.

a decrease in reserve requirements could lead to an a. increase in the discount rate b. increase in bank lending c. increase in the money supply d. increase in bank lending and an increase in the discount rate e. increase in bank lending and an increase in the money supply

a negotiable CD a. is a bank-issued transactions deposit b. pays discount interest c. has denominations ranging from $50,0000 to $10 milion d. is a registered instrument e. is a bank-issued time deposit

the _______ is a network linking over 9,000 banks with the federal reserve that is used to transfer deposits and make loan payments between participants a. NASDAQ b. SWIFT c. CHIPS d. ACH e. Fedwire

the federal reserve system is charged with a conducting monetary policy b. setting bank prime rates c. regulating securities exchanges d. providing payment and other services to a variety of institutions e. conducting monetary policy and providing payment and other services to a variety of institutions

the most liquid of the money market securities are a. fed funds b. commercial paper c. banker's acceptances d. repurchase agreements e. t-bills

the primary policy tool used by the fed to meet its monetary policy goals is a. changing reserve requirements b. changing the discount rate c. changing bank regulations d. devaluing the currency e. open market operations

The Federal Reserve requires banks to maintain a reserve to a. meet liquidity shocks. b. to control the money supply. c. to reduce the riskiness of bank loans. d. All of the above. e. Only A and B above.

e. only A and B above

A bankers-acceptance is a. a non-tradable insurance policy issued by a bank. b. tradable in secondary markets. c. used to facilitate international trade. d. Only A and C are true. e. Only B and C are true.

e. only b and c are true

An increase in Treasury securities held by the Fed leads to a decrease in the money supply

false

Federal Reserve interest rate decisions can be vetoed by the U.S. president or the Congress.

false

The major asset of the Federal Reserve is currency outside banks and the major liability is U.S. Treasury securities.

false

an increase in treasury securities held by the fed leads to a decrease in the money supply

false

federal reserve interest rate decisions can be vetoed by the U.S. president or the Congress

false

the major asset of the federal reserve is currency outside banks and the major liability is U.S. treasury securities

false

Banks become members of the Fed by _______________ in the Federal Reserve Bank in their district.

purchasing stock

Board of governors has ________ members each from a different geographic region in the US

seven

The discount rate is the rate that

the Federal Reserve charges on loans to commercial banks.

Federal Reserve Board members are appointed by the U.S. president and confirmed by the Senate for a nonrenewable 14-year term.

true

Four seats on the Federal Open Market Committee (FOMC) are allocated to Federal Reserve Bank presidents on an annual rotating basis.

true

If the FOMC wished to generate faster economic growth, they could issue a policy directive to the Federal Reserve Board Trading Desk to purchase U.S. government securities.

true

Nationally chartered banks are required to become members of the Federal Reserve System.

true

The seven members of the Board of Governors of the Federal Reserve System serve 14-year nonrenewable terms. Each Board member is appointed by the president and confirmed by the Senate.

true

about 34 percent of all U.S. banks are members of the federal reserve system

true

commercial paper, treasury bills, and banker's acceptance rates are all quoted as discount yields

true

federal reserve board members are appointed by the U.S. president and confirmed by the senate for a nonrenewable 14-year term

true

the seven members of the board of governors of the federal reserve system serve 14-year nonrenewable terms. Each board member is appointed by the president and confirmed by the senate.

true

The FOMC has ________ voting members - ______ Board of Governors plus ______ of the Fed bank presidents.

twelve, seven, five

Board of governors terms expire every _____ years

two

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