ECON 315 FINAL

If the required reserve rate is ten percent and banks do not hold any excess reserves and there are no changes in currency holdings, a $1 million open market purchase by the Fed will result in deposit creation of:

$10 million.

If M = the money supply; Y = real output, P = the price level, and V = velocity, which of the following equals the velocity of money?

(P ×Y)/M

Using the equation of exchange, if inflation is 1.5%, real output grows by 3.0%, and the growth rate of money is 5.0%, the change in the velocity of money is:

-0.5%.

Given the following formula for the Taylor rule: Target federal funds rate = natural rate of interest + current inflation + ½(inflation gap) +½(output gap) if the current rate of inflation is 5%, the natural rate of interest is 2%, and the target rate of inflation is 2%, and output is 3% above its potential, the target federal funds rate would be:

10%.

Given the following formula for the Taylor rule: Target federal funds rate = natural rate of interest + current inflation + ½(inflation gap) +½(output gap) if the current rate of inflation is 4%, natural rate of interest is 2%, and the target rate of inflation is 2%, and output is 3% above its potential, the target federal funds rate would be:

8.5%.

Suppose there was a wave of investor pessimism in the economy. What would the impact be on the dynamic aggregate demand curve?

A wave of investor pessimism would reduce investment and therefore reduce aggregate expenditure at each real interest rate. This would be reflected in a shift to the left of the dynamic aggregate demand curve.

If the required reserve rate is ten percent and banks do not hold any excess reserves and there are no changes in currency holdings, a $1 million open market purchase by the Fed will result in what change in loans?

An increase of $10 million

Why is inflation higher than money growth in high‑inflation countries and lower than money growth in low‑inflation countries?

At very high levels of inflation, the velocity of money rises dramatically as people rush to spend their currency before it loses value; this causes inflation to be higher than money growth. Inflation is lower than money growth in low-inflation countries because part of the growth of money is offset by economic growth.

A customer of Bank A writes a $20,000 check for a new car, which the car dealer deposits in his bank, Bank B. Which of the following statements pertaining to this transaction is most true?

Bank A's reserves decrease by $20,000 and Bank B's reserves increase by $20,000

Explain how money growth reduces the purchasing power of money.

By increasing the supply of money, holding demand for money constant, the value of each dollar relative to goods and services in the economy will fall. The price of money in terms of goods and services has fallen.

Given the following formula for the Taylor rule: Target federal funds rate = natural rate of interest + current inflation + ½(inflation gap) +½(output gap) If output in the economy were to fall by an additional one percent below potential, the target federal funds rate would:

Decrease by 0.5%.

Follow the impact of a $100 cash withdrawal through the entire banking system, assuming that the reserve requirement is 10 percent and that banks have no desire to hold excess reserves.

Deposits fall by $100 and reserves fall by $100. The bank (Bank A) needs to increase its reserves by $90 in order to meet the required reserve ratio. To raise the $90, Bank A will sell $90 of securities to someone. The deposit account of the person who purchased the securities will fall by $90, as will the reserve balance of his bank, Bank B. Bank B now needs to increase its reserves by $81 in order to meet the reserve requirements so it will sell $81 of securities. This continues until deposits contract by $100/0.1 = $1,000.

Which of the following statements is most correct if the Fed sees no need to engage in expansionary monetary policy?

Eventually, the Fed will shrink its balance sheet by letting securities it holds expire.

Use the following Taylor rule to calculate what would happen to the real interest rate if inflation increased by 3 percentage points. Target federal funds rate = Natural rate of interest + Current inflation + 1/2(Inflation gap) + 1/2(Output gap)

If inflation goes up by 3 percentage points, the target (nominal) federal funds rate goes up by 4.5 percentage points (3 percentage points due to the direct impact of inflation and another 1.5 percentage points due to an increase in the inflation gap). To calculate the impact on the real interest rate, we can use the Fisher equation: Nominal interest rate = Real interest rate + Inflation. So, if the nominal rate increases by 4.5 percentage points and inflation increases by 3 percentage points, the real interest rate must have increased by 1.5 percentage points.

Use the following Taylor rule to calculate what would happen to the real interest rate if inflation increased by 3 percentage points. Target federal funds rate = Natural rate of interest + Current inflation + 1/2(Inflation gap) + 1/2(Output gap)

If inflation goes up by 3 percentage points, the target (nominal) federal funds rate goes up by 4.5 percentage points (3 percentage points due to the direct impact of inflation and another 1.5 percentage points due to an increase in the inflation gap). To calculate the impact on the real interest rate, we can use the Fisher equation: Nominal interest rate = Real interest rate + Inflation. So, if the nominal rate increases by 4.5 percentage points and inflation increases by 3 percentage points, the real interest rate must have increased by 1.5 percentage points.

Harry gets $1,000 in currency from his grandfather when he graduates from college. He deposits these funds into his checking account. Considering Harry's personal balance sheet, his assets:

Increased when he received the $1,000 in currency from his grandfather.

How do long terms of office for central bankers help overcome the problem of time inconsistency in monetary policy?

Long appointments allow central bankers to resist reneging on desirable long-run policies for short-term gains. Long terms also allow central bankers to develop reputations that enhance policy credibility.

If we let Md reflect money demand, then we can write the equation for money demand as:

Md = (1/V) PY.

If M = the quantity of money, m the money multiplier, MB the Monetary Base, C = Currency, D = Deposits, R = Reserves, RR = required reserves, and ER = Excess reserves, then RR would equal:

R - ER.

Which of the following statements is most correct?

Reserves are assets of the commercial banks and liabilities of the central bank.

Explain how a recessionary output gap would emerge in an economy where the long-run aggregate supply curve is persistently shifting to the right.

Shifts to the right in the long-run aggregate supply curve reflects growth in the potential output of the economy. A recessionary gap would arise if actual output grew more slowly than potential output.

Which of the following would be categorized as an unconventional monetary policy tool?

Targeted asset purchases

Which of the following statements is most correct?

The FOMC sets the target federal funds rate range.

Which of the following statements is most correct?

The Fed can control either the size of the monetary base or the price of its components.

The Fed purchases German bonds from commercial banks. Which of the following best describes the impact on the Fed's and the Banking System's balance sheets resulting from this transaction?

The Fed's assets increase and its liabilities increase, for the banking system, the value of assets and liabilities do not change, only the composition of assets changes.

The U.S. Treasury maintains accounts at commercial banks. What would be the consequences for the money supply if the Treasury shifted funds from one of those banks to the Fed?

The balance sheet for the bank would reflect a decrease in reserves and a decrease in deposits. The decrease in reserves would also appear on the Fed's balance sheet; however, it would be offset by an increase in the government's account. The response of the banking system to the decline in bank reserves would be a decline in the quantity of money.

Suppose you examine the central bank's balance sheet and observe that since the previous day, reserves had risen by $400 million. In addition, on the asset side of the central bank's balance sheet, securities had risen by $400 million. What activity did the central bank carry out earlier in the day to lead to these changes in the balance sheet?

The central bank conducted an open market purchase of $400 million with a commercial bank. The purchase of the securities would involve $400 million of securities being added to the central bank's balance sheet. The commercial bank would have received payment for the securities into its reserve account, thus leading to a rise of $400 million in reserves on the central bank balance sheet.

Suppose the U.S. economy is in equilibrium at the long-run real interest rate that prevails when aggregate expenditure equals potential output, as shown in the graph below. Now suppose that foreign demand for U.S. exports falls due to a recession abroad. Show how the long-run real interest rate will change.

The reduction in U.S. exports diminishes U.S. aggregate expenditures at each level of the real interest rate. Thus, the AE curve shifts to the left to AE' and the long-run real interest rate declines from r* to r*'.

If we look at the equation for money demand from Irving Fisher, which of the following statements is true?

There isn't an explicit role for the interest rate in the equation

"A central bank should remain vague about the relative importance it places on its various objectives. That way, it has the freedom to choose which objective to follow at any point in time." Assess this statemtent in light of what you know about good central bank design.

This statement is inaccurate. In order for the central bank to be credible, it needs to communicate clearly its policy goals and the trade-offs between them. This allows the public to know how the central bank will react in various situations and helps to keep inflationary expectations under control.

Which of the following features would characterize a good monetary policy instrument?

Tightly linked to monetary policy objectives.

Inflation can be thought of as:

a decrease in the price of money.

Keeping interest rates stable is:

a secondary goal for central banks.

Suppose the president of a newly independent country asks you for advice in designing the country's new central bank. For each of the following design features, choose which one you would recommend: a. Central bank policy decisions that are irreversible or central bank policy decisions that can be overturned by the democratically elected government. b. The central bank has to submit a proposal for funding to the government each year or the central bank finances itself from the earnings on its assets and turns the balance over to the government. c. The central bank policymakers are appointed for periods of four years to coincide with the electoral cycle for the government or the central bank policymakers are appointed for 14-year terms.

a. Central bank policy decisions that are irreversible. b. The central bank has to submit a proposal for funding to the government each year. c. The central bank policymakers are appointed for 14-year terms.

A liability of the central bank in functioning as the bankers' bank is:

accounts of commercial banks.

Short-run movements in inflation and output are ultimately attributed to changes in:

aggregate demand and aggregate supply.

The Taylor rule is:

an approximation that seeks to explain how the FOMC sets their target.

When the Federal Reserve purchases a U.S. Treasury bond for $1 million by writing a check, when the check returns, the Fed's balance sheet will show:

an increase in assets and liabilities of $1 million.

When the Fed makes a discount loan, the impact on the Fed's balance sheet will reflect:

an increase in assets and liabilities.

The ways the Fed can inject reserves into the banking system include:

an increase in the size of the Fed's balance sheet through purchasing securities.

Targeted asset purchases are:

asset purchases that shift the composition of the Fed's balance sheet.

When an individual withdraws funds from a checking account the:

bank's balance sheet shrinks but the size of the Fed's balance sheet is not affected.

Reserve demand becomes horizontal at the IOER rate because:

banks will not make loans at less than the IOER rate.

The stability of the financial system is enhanced by the ability of central banks to:

be a lender of last resort.

Bonds issued by a foreign government in its own currency would:

be held by the Fed as part of its foreign exchange reserves.

Bonds issued by the U.S. Treasury would:

be held by the Fed as part of its securities.

Most economists agree that a well-designed central bank would:

be independent of political pressure.

The Fed can _____ in the economy.

change both interest rates and the supply of money

To be independent, a central bank must have:

control of its own budget.

History shows that:

countries with high rates of money growth have high rates of inflation.

The monetary base is the sum of:

currency in the hands of the public and reserves in the banking system.

The conventional policy tools available to the Fed include each of the following, except the:

currency-to-deposit ratio.

Each of the following items would appear as assets on the central bank's balance sheet, except:

currency.

The economy is in both a short- and long-run equilibrium if:

current inflation equals expected inflation and current output equals potential output.

The intersection of the aggregate demand curve and the short-run aggregate supply curve determines:

current output and current inflation.

Mary decides to withdraw $500 out of her checking account. The impact of this transaction on the Banking System's balance sheet will be to:

decrease reserves and checkable deposits by $500 respectively.

The market for reserves derives from the fact that:

desired reserves don't always equal actual reserves.

In the U.S., loans made by Federal Reserve to banks fall in the categories of:

discount loans.

If the Fed were to decrease the required reserve rate from ten percent to five percent, the simple deposit expansion multiplier would:

double.

The velocity of money increases if:

each unit of money is used more frequently.

Exchange-rate stability is likely to be a more important goal for the central banks of:

emerging market economies than the central bank of the U.S.

In the long run, current output will:

equal potential output.

Quantitative easing is:

expansion of the supply of aggregate reserves beyond the amount needed to maintain the policy rate target.

The rationale for the existence of central banks is mainly that:

financial systems are prone to periods of extreme volatility.

The Taylor rule allows the real long-term interest rate to:

fluctuate with the natural rate of interest.

A central bank holds foreign exchange reserves for:

foreign exchange interventions.

The monetary base is also known as:

high-powered money.

The fact that there is a market for federal funds enables banks to:

hold a lower level of excess reserves than they would otherwise hold.

If Bank A sells a $100,000 U.S. Treasury bond to the Fed, Bank A's reserves will:

increase by $100,000.

The main problem from inflation as seen by most economists is:

inflation creates risk.

Discount lending by the Fed:

is usually small except in times of crisis.

One monopoly that modern central banks have is in:

issuing currency.

Discount lending ties into the Fed's function of:

lender of last resort.

A central bank's balance sheet would categorize each of the following as liabilities, except:

loans.

Explain the costs of each of the following conditions, and explain who bears them. Interest-rate instability Unstable growth Inflation Exchange-rate instability

makes output unstable. It also increases risk and therefore the risk premium on bonds. With a higher risk premium, it is more costly for firms to borrow. Firms will decrease their investments, which will hurt economic growth. makes the revenue from exports and the costs of imports unpredictable. This hurts individuals engaged in foreign trade. This problem is particularly severe in emerging markets countries. creates uncertainty, which reduces investment and hurts growth. When this is higher than expected, the real value of the payments received by lenders falls. Someone on a fixed salary is also hurt when this is higher than expected. makes people less sure about their future incomes and are less willing to borrow. Another reason for the decrease in borrowing is that the uncertainty with this problem increases the risk premium and makes borrowing more costly. Lower levels of borrowing reduce investment.

The velocity of money equals:

nominal GDP divided by the money supply.

If Bank A sells a $100,000 U.S. Treasury bond to the Fed, Bank A's required reserves will:

not change.

The primary objective of most central banks in industrialized economies is:

price stability.

In its role as the bankers' bank, a central bank performs each of the following, except:

providing deposit insurance.

The aggregate demand curve shows the quantity of:

real output demanded at each level of inflation.

Aggregate supply is the quantity of:

real output supplied at each level of inflation.

Today, reserve requirements are:

really not a direct tool of monetary policy.

As a portion of total assets measured in billions of dollars, the most important asset on the Fed's balance sheet is:

securities.

The Fed is reluctant to change the required reserve rate because:

small changes in the required reserve rate can have too big of an impact on the money multiplier and the level of deposits.

Forward guidance is:

statements today about policy targets in the future.

One argument for an independent central bank is:

successful monetary policy requires a long time horizon usually well beyond the next election of most public officials.

The efficient allocation of resources requires:

that prices reflect the relative value of goods and services.

The components of the formula for the Taylor rule includes each of the following, except:

the 30-year U.S. Treasury bond rate.

If the Federal Reserve is to be independent, then the quantity of securities it purchases is determined by:

the Federal Reserve itself.

The central bank in the United States is:

the Federal Reserve.

The principle tool the Fed uses to keep the federal funds rate close to the target is:

the IOER rate.

The ability to create money means the central bank can control:

the availability of money and credit in a country's economy.

A characteristic of long-run equilibrium is the economy is producing its potential output. This is:

the level of output the economy produces when its resources are used at normal rates.

The conventional tools of monetary policy include:

the target federal funds rate range.

According to the equation of exchange, if real output and the money supply stay the same and the price level increases:

the velocity of money has to increase.

Central banks often find:

there are tradeoffs that make pursuing all of their goals simultaneously impossible.

The daily reserve supply curve is:

vertical.