Money and Banking Test 1

Security ____ link buyers and sellers by buying and selling securities at stated prices, while ____ are agents of investors who match buyers with sellers of securities.

dealers, brokers

When the interest rate on the market increases, the expected return of a long term bond will _____ and the demand for the long term bond will __________

decrease; decrease

When the economy slips into a recession, normally the demand for bonds ________, the supply of bonds ________, and the interest rate ________.

decreases; decreases; falls

During a recession, the supply of bonds ________ and the supply curve shifts to the ________.

decreases; left

When the inflation rate is expected to increase, the expected return on bonds relative to real assets falls for any given interest rate; as a result, the ________ bonds falls and the ________ curve shifts to the left.

demand for; demand

When the interest rate on a bond is above the equilibrium interest rate, there is excess ________ in the bond market and the interest rate will ________.

demand; fall

A corporation buys commercial paper issued by another corporation. This is direct or indirect finance?

direct finance

A startup company borrows $100,000 from an individual investor for two years with $10,000 interest payment per year. This is direct or indirect finance?

direct finance

A loan that requires the borrower to make the same payment every period until the maturity date is called a ____. A ____ pays the owner of the bond a fixed interest payment every period, plus the face value of the bond at the maturity date. A credit market instrument that pays the owner the face value of the security at the maturity date and nothing prior to then is called a ____. A ____ requires the borrower to repay the principal at the maturity date along with an interest payment. The interest rate that equates the present value of the cash flow received from a debt instrument with its market price today is the ____.

fixed-payment loan, coupon bond, discount bond, simple loan, yield to maturity

Typically, yield curves are

gently upward-sloping

Since yield curves are usually upward sloping, the ________ indicates that, on average, people tend to prefer holding short-term bonds to long-term bonds.

liquidity premium theory and market segmentation theory

Which of the following long-term bonds should have the lowest interest rate?

municipal bonds

Which of the following are true concerning the distinction between interest rates and return? -The return can be expressed as the sum of the current yield and the rate of capital gains. -The rate of return on a bond will not necessarily equal the interest rate on that bond. -The rate of return will be greater than the interest rate when the price of the bond falls between time t and time t + 1. -Only A and B of the above are true.

only A and B are true

When people begin to expect a large stock market decline, the demand curve for bonds shifts to the ________ and the interest rate ________.

right; falls

When the corporate bond market becomes more liquid, other things equal, the demand curve for corporate bonds shifts to the ________ and the demand curve for Treasury bonds shifts to the ________.

right; left

When the default risk on corporate bonds decreases, other things equal, the demand curve for corporate bonds shifts to the ________ and the demand curve for Treasury bonds shifts to the ________.

right; left

A decrease in the expected rate of inflation causes the demand for bonds to ________ and the supply of bonds to ________.

rise; fall

The spread between the interest rates on bonds with default risk and default-free bonds, both of the same maturity, is called the

risk premium

If income tax rates were lowered, then -the interest rate on Treasury bonds would rise. -the price of Treasury bonds would fall -the interest rate on municipal bonds would rise -the interest rate on municipal bonds would fall

the interest rate on municipal bonds would rise

The risk premium on corporate bonds becomes smaller if

the liquidity of corporate bonds increases. the riskiness of corporate bonds decreases.

If you expect the inflation rate to be 15 percent next year and a one-year bond has a yield to maturity of 7 percent, then the real interest rate on this bond is approximately

-8%

A bond will have return of 0.1 with probability of 0.6 and return of -0.1 with probability of 0.4. what is the standard deviation?

.09798

Jeremy wants to borrow $5000 from his uncle to buy a car and promises to pay him back with $5400 next year. The yield to maturity of this loan is ______ percent

0.08

What is the return on a 5 percent coupon bond that initially sells for $1,000 and sells for $1,200 one year later?

0.25

Find the price of a 8% coupon bond with a face value of $1,000, a 6% yield to maturity, and ten years to maturity. Your answer is $_______

1,147.202

Based on the following table of interest rates, what is the forward rate from the end of year 3 to the end of year 4? Time to maturity Interest Rate 1 year 5% 2 year 6% 3 year 7% 4 year 8%

11 percent

You will buy a new house and need a $400,000 mortgage. You take out a 30 year fixed rate loan from the bank that has an interest rate of 4% . The yearly payment to the bank is $_________

23,132.04

If the expected path of one-year interest rates over the next four years is 5 percent, 4 percent, 2 percent, and 1 percent, then the pure expectations theory predicts that today's interest rate on the four-year bond is

3 percent

With an interest rate of 12 percent, the price of a discount bond (i.e. zero coupon bond) with face value of $1000 and maturity of two years is approximately $_______

797.19

____ include credit unions, savings and loan associations and commercial bank. The pension funds and insurance companies are called ____. Mutual funds and hedge funds are ____. Among financial intermediaries, ____ advise companies on securities to issue, underwriting security offerings, offer M&A assistance, and act as dealers in security markets.

Depository institutions, contractual savings institutions, investment intermediaries, investment banks

An inverted yield curve typically indicates

Economic Recession

Bonds that are sold in a foreign country and are denominated in a currency other than that of the country in which they are sold are known as ____. Foreign currencies that are deposited in banks outside the home country are known as ____. U.S. dollars deposited in foreign banks outside the United States or in foreign branches of U.S. are referred to as ____. Bonds that are sold in a foreign country and are denominated in that country's currency are known as ____

Eurobonds, Eurocurrencies, Eurodollars, foreign bonds

The organization responsible for the conduct of monetary policy in the United States is the ____ , and the central bank of the United States is ___

Federal Reserve System, the Fed

According to the market segmentation theory of the term structure, -the interest rate for bonds of one maturity is determined by the supply and demand for bonds of that maturity -bonds of one maturity are not substitutes for bonds of other maturities; therefore, interest rates on bonds of different maturities do not move together over time -investors' strong preference for short-term relative to long-term bonds explains why yield curves typically slope downward -only A and B of the above

Only A and B

In the figure , one possible explanation for a decrease in the interest rate from i2 to i1 is

a decrease in economic growth.

When the potential borrowers who are the most likely to default are the ones most actively seeking a loan, ________ is said to exist. When the borrower engages in more risky activities that make it less likely that the loan will be repaid, ________ is said to exist.

adverse selection, moral hazard

Which of the following are generally true of all bonds? -Prices and returns for long-term bonds are more volatile than those for shorter-term bonds. -Even though a bond has a substantial initial interest rate, its return can turn out to be negative if interest rates rise. -The longer a bond's maturity, the lower is the rate of return that occurs as a result of the increase in the interest rate. -When interest rate drops, bond prices tend to increase.

all are true

According to the liquidity premium theory of the term structure, -the interest rate on long-term bonds will equal an average of short-term interest rates that people expect to occur over the life of the long-term bonds plus a liquidity premium -buyers of bonds may prefer bonds of one maturity over another, yet interest rates on bonds of different maturities move together over time -even with a positive liquidity premium, if future short-term interest rates are expected to fall significantly, then the yield curve will be downward-sloping -all of the above -only A and B of the above

all of the above

Which of the following statements about financial markets and securities are true? -Most common stocks are traded over-the-counter, although the largest corporations have their shares traded at organized stock exchanges such as the New York Stock Exchange. -Money market securities are usually more widely traded than longer-term securities and so tend to be more liquid. -A corporation acquires new funds only when its securities are sold in the primary market.

all of the above are true

According to Irving Fisher, the most likely cause of the increase in the equilibrium interest rate from i1 to i2 in the above figure is

an increase in the expected inflation rate.

Factors that cause the demand curve for bonds to shift to the left include -a decrease in the inflation rate. -an increase in the liquidity of stocks. -an increase in the volatility of stock prices.

an increase in the liquidity of stocks

(I) The risk premium widens as the default risk on corporate bonds increases. (II) The risk premium widens as corporate bonds become less liquid.

both are true

When an investor forecasts that the economy will be in deflation based on his econometric model, he should ______ bonds.

buy

When the yield curve is inverted, the yield curve is

downward-sloping

In actual practice, short-term interest rates are just as likely to fall as to rise; this is the major shortcoming of the

expectations theory

In a recession when income and wealth are falling, the demand for bonds ________ and the demand curve shifts to the ________.

falls; left

As the price of a bond ________ and the expected return ________, bonds become more attractive to investors and the quantity demanded rises.

falls; rises

The higher the standard deviation of returns on an asset, the ________ the asset's ________.

greater; risk

Lower expected interest rates in the future ________ the demand for long-term bonds and shift the demand curve to the ________.

increase; right

When bond prices become less volatile, the demand for bonds ________ and the interest rate ________.

increases; falls

A corporation takes out loans from a bank. This is direct or indirect finance?

indirect finance

A pension fund manager buys commercial paper from the issuing corporation. This is direct or indirect finance?

indirect finance

An insurance company buys shares of common stock in the over-the-counter markets. This is direct or indirect finance?

indirect finance

People buy shares in a mutual fund. This is direct or indirect finance?

indirect finance

The riskiness of an asset's return that results from interest rate changes is called ____. The risk that a bond's future coupon payments may have to be invested at a rate lower than the bond's yield to maturity is called ____. The average lifetime of a debt security's stream of payments is called ____. If an investor's holding period is longer than the term to maturity of a bond, he or she is exposed to ____. The change in the bond's price relative to the initial purchase price is ____.

interest rate risk, reinvestment risk, duration, reinvestment risk, capital gain yield

According to the expectations theory of the term structure, -buyers of bonds prefer short-term to long-term bonds -interest rates on bonds of different maturities move together over time -the interest rate on long-term bonds will exceed the average of expected future short-term interest rates

interest rates on bonds of different maturities move together over time

Banks providing depositors with checking accounts that enable them to pay their bills easily is known as ____. Financial intermediaries can substantially reduce transaction costs per dollar of transactions because their large size allows them to take advantage of ____. Through ____ and asset transformation activities, a financial intermediary reduces the risks of its customers. The presence of ____ in financial markets leads to adverse selection and moral hazard problems that interfere with the efficient functioning of financial markets.

liquidity services, economies of scale, risk-sharing, asymmetric information

According to the liquidity premium theory of the term structure, when the yield curve has its usual slope, the market expects -short-term interest rates to drop sharply -short-term interest rates to stay near their current levels -short-term interest rates to rise sharply

short-term interest rates to stay near their current levels

A debt instrument is called ____ if its maturity is less than a year. A debt instrument is called ____ if its maturity is between one year and 10 years. A debt instrument is called ____ if its maturity is greater than 10 years. A three month Treasury bill is a ____ market instrument. The ____market instruments include debt instruments with maturity greater than one year and equities.

short-term, intermediate-term, long-term, money, capital

When the inflation rate is expected to increase, the real cost of borrowing declines at any given interest rate; as a result, the ________ bonds increases and the ________ curve shifts to the right.

supply of; supply

When the price of a bond is above the equilibrium price, there is excess ________ in the bond market and the price will ________.

supply; fall

When the federal governments budget deficit decreases, the ________ curve for bonds shifts to the ________.

supply; left

The government regulates financial markets for two main reasons:

to increase the information available to investors and to ensure soundness of the financial system.

The relationship among interest rates on bonds with identical default risk but different maturities is called the

yield curve