ECO Hw questions
Expectations of a near-term policy reversal weaken fiscal policy because
consumers may hesitate to increase their spending because they believe that tax rates will rise again.
Consider the following statement: "When a commercial bank makes loans, it creates money; when loans are repaid, money is destroyed." This statement is
correct, because lending increases the money supply while the repayment reduces checkable deposits, which lowers the money supply.
Total money demand is the
horizontal sum of the transactions demand for money and the asset demand for money.
What are the three basic functions of money?
Medium of exchange, unit of account, and store of value
Which group votes on the open-market operations that are used to control the U.S. money supply and interest rates?
The Federal Open Market Committee (FOMC).
Each member of the Board of Governors is selected by the
U.S. president and confirmed by the Senate.
The distinction between the absolute and relative sizes of the public debt is important because
the absolute size doesn't tell you about an economy's capacity to repay the debt.
Suppose there is an increase in the total demand for money. In this case,
the equilibrium interest rate will rise
If the annual interest payments on the debt sharply increased as a percentage of GDP
the government would have to use tax revenues or go deeper into debt
The Federal Reserve Board of Governors
coordinates policies for the 12 Federal Reserve Banks.
The basic determinant of the transactions demand for money is the
level of nominal GDP
The federal funds rate is
lower than the prime interest rate because federal funds are loaned overnight.
Paying off an externally held debt
may lower the dollar exchange rate.
Cyclical asymmetry is important to policymakers because
monetary policy is more effective in fighting inflation than recession
To fight a recession, Congress has passed a bill to increase infrastructure spending—but the legally required environmental-impact statement for each new project will take at least two years to complete before any building can begin.
operational lag
to fight a recession, the president orders federal agencies to get rid of petty regulations that burden private businesses—but the federal agencies begin by spending a year developing a set of regulations on how to remove petty regulations
operational lag
An asset on a bank's balance sheet is something
owned by the bank, whereas a liability is something owed by the bank
Rapid inflation can undermine money's ability to perform its functions. For example, in runaway inflation
people revert to barter because money fails as a medium of exchange
The two conflicting goals facing commercial banks are
profit and liquidity.
Net worth is equal to
Assets - Liabilities
An internally held public debt is like a debt of the left hand owed to the right hand
true
Suppose that the national economy is experiencing a recession with an estimated recessionary gap of $10 billion. Congress is considering the use of fiscal policy to ease the recession, and due to current political sentiments, it has determined that the maximum spending increase the government is willing to support is $3 billion. The government wants to make up the remainder of the recessionary gap using tax cuts. If a spending increase of $3 billion is approved and the MPC is 0.6, by how much will taxes need to be reduced to close the remainder of the recessionary gap?
$1.67 billion Change in Income = [Change in government spending / (1 - MPC)] + [ - MPC x Change in taxation / (1 - MPC)]
A commercial bank has $100 million in checkable-deposit liabilities and $12 million in actual reserves. The required reserve ratio is 10 percent. How big are the bank's excess reserves?
$2 million
Suppose that the Fed has set the reserve ratio at 10 percent and that banks collectively have $2 billion in excess reserves. What is the maximum amount of new checkable-deposit money that can be created by the banking system?
$20 billion
Suppose that Serendipity Bank has excess reserves of $8,000 and checkable deposits of $150,000. If the reserve ratio is 20 percent, what is the size of the bank's actual reserves?
$38,000
Third National Bank has reserves of $20,000 and checkable deposits of $100,000. The reserve ratio is 20 percent. Households deposit $5,000 in currency into the bank and that currency is added to reserves.
$4000
Suppose that in a given month $51 million is deposited into the banking system while $55 million is withdrawn. Assume that the reserve requirement is 25 percent and that the banking system had no excess reserves at the beginning of the month. What is the maximum change that can be expected in the money supply as a consequence of these deposits and withdrawals?
-16 million
What is the monetary multiplier?
1/reserve ratio
If the required reserve ratio is 5 percent, what is the monetary multiplier?
20
If the monetary multiplier is 2, what is the required reserve ratio?
50%
What type of tax system would have the most built-in stability?
A progressive tax because it increases at an increasing rate as incomes rise, thus having more of a dampening effect on rising (or falling) incomes.
Which of the following is not a function of the Fed?
Advising Congress on fiscal policy (Regulating the supply of money, setting reserve requirements for banks, serving as a lender of last resort)
As a percentage of GDP, the total U.S. public debt is the highest such debt among the world's advanced industrial nations
As a percentage of GDP, the total U.S. public debt is the highest such debt among the world's advanced industrial nations
Who in the United States is responsible for maintaining money's purchasing power?
Board of Governors of the Federal Reserve System
Suppose that the banking system in Canada has a required reserve ratio of 10 percent while the banking system in the United States has a required reserve ratio of 20 percent. In which country would $100 of initial excess reserves be able to cause a larger total amount of money creation?
Canada
What are the components of the M1 money supply?
Currency in circulation and checkable deposits
Consider the following statement: "Whenever currency is deposited in a commercial bank, cash goes out of circulation and, as a result, the supply of money is reduced." Is this statement true or false?
False, because a checkable deposit in a commercial bank is also part of the money supply.
How does the purchasing power of money relate to the price level?
It is inversely related to the price level.
What are the two ways to measure the public debt?
Its absolute dollar size and its relative size as a percentage of GDP
What near-monies are included in the M2 money supply?
Noncheckable savings deposits, money market deposit accounts, small time deposits, and money market mutual fund balances
Why is the face value of a coin greater than its intrinsic value?
People would sell it for its intrinsic value
What determines the value (domestic purchasing price) of money?
People's willingness to accept it in exchange for goods and services.
In January, the interest rate is 5 percent and firms borrow $50 billion per month for investment projects. In February, the federal government doubles its monthly borrowing from $25 billion to $50 billion. That drives the interest rate up to 7 percent. As a result, firms cut back their borrowing to only $30 billion per month. Which of the following is true?
There is a crowding-out effect of $20 billion.
Which of the following statements is true?
There is no concrete backing to the money supply in the United States
For a person who thinks the public sector is too large, the fiscal options for ending severe demand-pull inflation would include
a cut in government spending
The economy is in a recession. A congresswoman suggests increasing spending to stimulate aggregate demand but also at the same time raising taxes to pay for the increased spending. Her suggestion to combine higher government expenditures with higher taxes is:
a mediocre and contradictory combination of tax and expenditure changes.
Assume that a hypothetical economy with an MPC of 0.8 is experiencing severe recession. a. By how much would government spending have to rise to shift the aggregate demand curve rightward by $25 billion? How large a tax cut would be needed to achieve the same increase in aggregate demand? b. Determine one possible combination of government spending increases and tax increases that would accomplish the same goal without changing the amount of outstanding debt.
a. 5 billion (1/mps or 1/1-mpc)(divided by 25) 6.25 (mpc/mpc-1)(25 divided by...) b. Increase government spending by $25 billion Increase taxes by $25 billion.
Excess reserves
can be lent out, which increases the money supply
Excess reserves are equal to
actual reserves - required reserves
A sudden recession is recognized by politicians, but it takes many months of political deal making before a stimulus bill is finally approved.
administration lag
For a person who wants to preserve the size of government, the fiscal options for ending severe demand-pull inflation would include
an increase in taxes
The major claim on a commercial bank's balance sheet is
checkable deposits
What is the largest component of M1?
checkable deposits
A balance sheet must always balance because the sum of
assets must equal the sum of liabilities plus net worth
The equilibrium interest rate is determined
at the intersection of the total demand for money curve and the supply of money curve.
The banking system in the United States is referred to as a fractional reserve bank system because
banks hold a fraction of deposits in reserve.
An internally held debt is one in which the
bondholders live in the nation having the debt
Suppose that Mountain Star Bank discovers that its reserves will temporarily fall slightly below those legally required. It can temporarily remedy this situation by
borrowing funds from other banks in the federal funds market.
Changes in the federal funds rate and the prime interest rate closely track one another because
both rates are related to the relative scarcity or availability of reserves.
Which of the components of M1 is legal tender?
currency
Suppose that last year $30 billion in new loans were extended by banks while $50 billion in old loans were paid off by borrowers. What happened to the money supply?
decreased
The Council of Economic Advisers (CEA) advises the president on
economic matters and provides recommendations for discretionary fiscal policy action
When economists say that monetary policy can exhibit cyclical asymmetry, this means
expansionary and restrictive monetary policy do not have the same potential for economic expansion and contraction
If there is an increase in the nation's money supply, the interest rate will
fall, investment spending will rise, aggregate demand will shift right, and real GDP and the price level will rise.
The total public debt is more relevant to an economy than the public debt as a percentage of GDP
false
In a fractional reserve system, deposit insurance
guarantees that depositors will always get their money, avoiding bank runs
The problem of time lags in enacting and applying fiscal policy is that
in the time it takes to identify the situation, enact a policy, and allow it to work, economic circumstances may have changed
A decrease in the reserve requirement causes the size of the monetary multiplier to
increase, the amount of excess reserves in the banking system to increase, and the money supply to increase.
Suppose that you are a member of the Board of Governors of the Federal Reserve System. The post 2008 economy is experiencing a sharp rise in the inflation rate. In this case, the federal funds rate should be
increased
Suppose the assets of the Silver Lode Bank are $100,000 higher than on the previous day and its net worth is up $20,000. By how much and in what direction must its liabilities have changed from the day before?
increased by 80,000
A commercial bank sells a Treasury bond to the Federal Reserve for $100,000. Assume that all proceeds from this bond sale are lent out. The money supply:
increases by $100,000
Suppose that you are a member of the Board of Governors of the Federal Reserve System. The post 2008 economy is experiencing a sharp rise in the inflation rate. You recommend a contraction of the money supply by
increasing the reserve ratio or discount rate, or selling bonds.
The basic determinant of the asset demand for money is the
interest rate
The monetary multiplier is
inversely related to the reserve ratio
Other than its main role of controlling the supply of money, the functions of the Federal Reserve include
issuing Federal Reserve Notes, providing for check collection, and supervising the operation of banks.
The Federal Open Market Committee (FOMC) includes
members of the Board of Governors and 5 of the 12 presidents of the Federal Reserve Banks, of which the president of the New York Fed has a permanent voting seat.
City Bank is considering making a $50 million loan to a company named SheetOil that wants to commercialize a process for turning used blankets, pillowcases, and sheets into oil. This company's chances for success are dubious, but City Bank makes the loan anyway because it believes that the government will bail it out if SheetOil goes bankrupt and cannot repay the loan. City Bank's decision to make the loan has been affected by
moral hazard
The "ratchet effect" makes anti-inflationary policy
more difficult
Paying off an internally held debt would
not burden the economy as a whole
A single commercial bank can safely lend only an amount equal to its excess reserves, but the commercial banking system as a whole can lend by a multiple of its excess reserves because
one bank loses reserves to other banks, but the banking system as a whole does not.
A political business cycle is the concept that
politicians are more interested in re-election than in stabilizing the economy.
Which of the following would help a government reduce an inflationary output gap?
raise taxes, decrease government spending
Distracted by a war that is going badly, inflation reaches 8 percent before politicians take notice.
recognition lag
Now assume Mountain Star Bank finds that its reserves will be substantially and permanently deficient. To remedy this situation, Mountain Star Bank can
reduce the amount of loans outstanding.
Suppose that you are a member of the Board of Governors of the Federal Reserve System. The post 2008 economy is experiencing a sharp rise in the inflation rate. You recommend a contraction of the money supply, which would
reduce the lending ability of the banking system, increase the real interest rate, and reduce investment spending, aggregate demand, and inflation.
The government's fiscal policy options for ending severe demand-pull inflation include
reducing government spending, increasing taxes, or both.
The Federal Reserve requires commercial banks to have reserves because
reserves provide the Fed a means of controlling the money supply.
The major assets on a commercial bank's balance sheet include
reserves, securities, loans, and vault cash.
Refinancing the public debt means
selling new bonds to retire maturing bonds
Built-in (or automatic) stabilizers work by changing ______ so that changes in GDP are reduced
taxes and government payouts
Consider the following statement: "Although fiscal policy clearly is useful in combating the extremes of severe recession and demand-pull inflation, it is impossible to use fiscal policy to fine-tune the economy to the full-employment, noninflationary level of real GDP and keep the economy there indefinitely." This statement recognizes that
the impact of fiscal policy will affect the economy differently depending on the timing of the policy and the severity of the situation
The federal funds rate is
the interest rate that banks charge one another on overnight loans, whereas the prime interest rate is the interest rate that banks charge on loans to their most creditworthy customers.
The crowding-out effect is
the reduction in investment spending caused by the increase in interest rates arising from an increase in government spending
Reserves are an asset to commercial banks but a liability to the Federal Reserve Banks because
these funds are cash belonging to commercial banks, but they are a claim that commercial banks have against the Federal Reserve Bank
Economists nearly uniformly support an independent Fed rather than one beholden directly to either the president or Congress because
this independence allows the Fed to more effectively control the money supply and maintain price stability.
The portion of the U.S. debt held by the public (and not by government entities) was larger as a percentage of GDP in 2015 than it was in 2000
true
True or False: A liquidity trap occurs when expansionary monetary policy fails to work because an increase in bank reserves by the Fed does not lead to an increase in bank lending.
true
The Federal Open Market Committee (FOMC)
votes on the Fed's monetary policy and directs the purchase or sale of government securities
