Financial crisis
How did Fannie Mae and Freddie Mac introduce vulnerabilities into the financial system? A. Fannie Mae and Freddie Mac ceased backing their securities. As a matter of policy, they no longer reimbursed investors for mortgage losses in their mortgage-backed securities. B. Both organizations were permitted to operate with inadequate capital to back their guarantees. This increased financial instability in the system. C. Fannie Mae and Freddie Mac tightened their loan criteria for homebuyers, which made mortgage-backed securities more expensive, leading to a decrease in home prices.
B
How did the crisis affect central bank practice? A. It underscored that monetary policy is the most important tool in central bank practice. B. It underscored that maintaining financial stability is a responsibility as critical as monetary policy. C. It underscored that central banks cannot anticipate threats to financial stability.
B
The mission of a central bank includes promoting financial stability. Select the option below that best describes "financial stability." A. Financial stability provides low and stable inflation with stable growth in output and employment. B. Financial stability refers to the proper functioning of the financial system. To achieve this, central banks try to prevent or mitigate panics in a country's financial institutions. C. Financial stability requires a central bank to set consistent, low interest rates for a nation's financial institutions.
B
What is the primary reason that concerns about mortgage-backed securities led to a financial panic? A. There was a tremendous amount of capital invested in subprime mortgages. A rash of subprime mortgage defaults represented massive financial losses to investors. B. The complexity of the securities and poor risk monitoring meant that no one knew for sure who would bear the brunt of the losses as mortgages went into default. This caused a panic. C. The ratings agencies collectively downgraded their ratings of all mortgage-backed securities, causing investors to rapidly sell of their investments.
B
What was the primary result of the Fed-Treasury Accord of 1951? A. The Fed agreed to allow the Treasury to assist in guiding monetary policy in response to changing economic conditions. B. The Fed achieved independence in setting interest rates, free of short-term political pressures. C. The Fed and Treasury agreed to set interest rates jointly so the government could cheaply pay off its war debt, so as to foster economic stability.
B
Which of the following best describes monetary policy in normal times? A. Monetary policy promotes financial stability by setting the amount banks can borrow from the Fed in its role as the "lender of last resort." B. Monetary policy involves the adjustment of short-term interest rates to promote macroeconomic stability. C. Monetary policy requires that banks maintain enough cash on hand to cover all of their deposits.
B
Which of the following is one of the ways in which the Dodd-Frank Act subjects systemically important financial institutions to tougher supervision and regulation? A. Bank affiliates are required to have insurance in the event of a bank failure. B. Bank affiliates are prohibited from trading on their own account. C. Bank affiliates must submit a status report to the public every quarter.
B
Which of the following most accurately describes Chairman Bernanke's view of the Fed's economic policy response to the Great Depression? A. The Fed maintained a loose monetary policy, but the excesses of the 1920s were simply too much for the Fed's corrective measures to overcome. B. The Fed maintained a tight economic policy, keeping real interest rates high, and also limited its extension of credit to troubled banks. C. The Fed provided significant access to credit for struggling banks, in an unsuccessful attempt to stem the tide of bank failures.
B
While the Fed's discount window is routinely used to provide overnight loans to banks, which of the following describes the unusual use of the discount window during the financial crisis, to reduce financial panic? A. The Fed raised interest rates on long-term loans, thereby ensuring that only the strongest and most solvent banks would have access to capital, which kept safe the money that the Fed was lending. B. To encourage broad participation by financial firms, the Fed conducted auctions of discount window funds, in which financial firms could bid on how much they would pay to borrow these funds. C. The Fed shortened the maturity of discount window loans, ensuring that banks would pay back loans quickly, therefore making funds available to more banks, more frequently.
B
Why did the Fed undertake large-scale purchases of Treasury and government sponsored enterprise (GSE) mortgage-related securities? A. To push private investors out of those markets B. To exert further downward pressure directly on longer-term rates C. To influence how the federal government spends taxpayer money
B
Why would the Fed choose to reduce the federal funds rate nearly to zero in an effort to support the recovery? A. Because reducing the federal funds rate will reduce the Fed's balance sheet and stimulate the economy. B. Because longer-term rates tend to fall when the Fed reduces the short-term rate, and lower longer-term rates encourage spending and investment. C. Because reducing the federal funds rate would raise longer-term rates, therefore encouraging more lending.
B
Chairman Bernanke distinguishes between "triggers" and "vulnerabilities" when analyzing the source of the financial crisis. Which of the following statements best describes this distinction? A. Triggers, such as mortgage losses, were elements that had a direct causal role in the financial crisis. Vulnerabilities were conditions in the economy and financial system that amplified the effects of those triggers. B. Triggers, such as complacency during the Great Moderation, were financial or economic conditions that allowed the financial crisis to occur, while vulnerabilities, such as poor lending practices, were direct causes of the financial crisis. C. Triggers were the economic conditions underlying the financial crisis, while vulnerabilities were the actions taken by financial institutions that made them vulnerable to significant financial loss.
A
Chairman Bernanke suggests that during the housing bubble of the early 2000s, there was an overall deterioration in mortgage quality. What does this mean? A. Lenders were offering mortgages to large numbers of nonprime borrowers, often with little or no down payment and little or no documentation to demonstrate the borrower's creditworthiness B. "Mortgage quality" refers to the quality of the terms of the loan, including the interest rate and the duration of the loan. Banks were making more loans at highly unfavorable interest rates during the housing bubble. C. A quality mortgage refers to the amount of the money a bank stands to make on the mortgage. For instance, a mortgage worth $400,000 will position the lender to make more money, in interest, than a $200,000 mortgage.
A
Conventional monetary policy is a tool used by the Fed to stabilize the economy and promote economic recovery. Which of the following options best describes conventional monetary policy? A. Conventional monetary policy involves management of the target short-term interest rate, or federal funds rate. B. Conventional monetary policy involves management of federal taxation and spending. C. Conventional monetary policy involves large-scale purchases of longer-term financial assets.
A
During the Great Depression, why could one nation's monetary policy have such a significant impact on the economies of other nations? A. Countries on the gold standard were forced to maintain fixed exchange rates. So, the policy errors of one central bank were transmitted to the other nations on the gold standard. B. The tight monetary policy of one nation impacted the economies of other nations because central banks around the world endorsed trade barriers, which caused a decline in exports for countries around the world. C. The policy errors of one nation impacted those of other nations because central banks typically coordinated their economic policies in times of financial or economic crisis in order to speed recovery.
A
How did declining house prices affect the economic recovery? A. Sharp declines in house prices reduced household wealth and thus made consumers less likely to spend. B. Declining house prices indicated that more people were buying homes and thus were not spending elsewhere. C. Sharp declines in house prices led to a sharp increase in mortgage rates.
A
How did falling house prices contribute to the increase in mortgage defaults? A. Many homeowners needed to refinance in order to continue to afford their homes. But falling house prices prevented refinancing. B. Falling house prices prompted some homeowners, unwisely, to purchase multiple properties on which they were unable to make mortgage payments. C. Falling house prices caused lenders to make riskier loans to borrowers who were less likely to be able to afford their monthly payments, leading to mortgage defaults.
A
In the early 1980s, why did homebuilders believe that Chairman Volcker was responsible for the decline in construction jobs? A. Chairman Volcker maintained high interest rates in order to reduce inflation. This had the temporary impact of reducing home sales and construction because of the high interest rates for home loans. B. Chairman Volcker's inability to control inflation caused unchecked rises in housing prices, which in turn slowed the construction industry. C. Chairman Volcker's economic policies caused the economy to overheat and inflation to surge, which in turn caused the cost of construction to become too high.
A
Some argue that the Fed kept interest rates too low during the early 2000s, which was an important cause of the housing bubble. What evidence does Chairman Bernanke offer that contradicts that argument? A. The United Kingdom had a housing boom during the same period, despite having tighter monetary policy than the United States. B. The Fed actually maintained a very tight monetary policy during this period, and still house prices soared. C. Chairman Bernanke argues that there is no causal relationship between the Fed's monetary policy and housing prices.
A
The Fed acts as lender of last resort to banks as part of its regular activities. Which of the following best describes how the Fed's lending practices during the financial crisis were unusual? A. The types of institutions to which the Fed made loans made the Fed's lending practices unusual. B. The Fed typically acts as lender of last resort only for larger banks, since their failure represents a greater potential impact to the financial system. During the crisis, the Fed extended its lending practices to smaller banks as well. C. The lender-of-last resort function is intended only for banks whose failure is imminent. During the crisis, the Fed extended credit to struggling banks as well, so as to reduce panic and the likelihood of bank failures.
A
The mission of a central bank includes promoting macroeconomic stability. Select the option below that best describes "macroeconomic stability." A. Macroeconomic stability is characterized by low and stable inflation with stable growth in output and employment. B. Macroeconomic stability is characterized by no financial panics or crises in a nation's financial system. C. Macroeconomic stability ensures that if a bank fails, depositors will receive full compensation for their losses.
A
The orderly liquidation authority allows the Federal Deposit Insurance Corporation (FDIC) to do what? A. To close failing systemic firms in a way that causes less damage to the financial system B. To protect consumers in their financial dealings C. To conduct regular "stress tests" to evaluate the impact of a negative event on the banking system
A
What ability does the Financial Stability Oversight Council (FSOC) have? A. To designate systemically important nonbank institutions to be supervised by the Fed B. To close failing systemic firms in a way that causes less damage to the financial system C. To implement provisions that protect consumers in their financial dealings
A
What did Walter Bagehot believe was the best way for a central bank to respond to a financial panic? A. Central banks should lend freely against good assets, but at a penalty interest rate to discourage excessive use of the central bank as lender of last resort. B. A central bank should lend only to banks whose investors are likely to retain their deposits in the institution. C. A central bank should raise interest rates during financial panics to stimulate investments in banks and, by extension, the nation's economy.
A
What measures did the Federal Reserve take to support critical institutions, such as Bear Stearns and AIG? A. The Fed provided collateralized loans and facilitated the acquisition by another institution of Bear Stearns. B. The Fed facilitated the breakdown of critical institutions into manageable parts, allowing some parts to fail while providing collateralized loans to others. C. The Fed gave money to these institutions to prevent their insolvency. While the money was not returned, these losses were far less damaging than the failure of critical institutions would have been.
A
What were some structural factors in the housing market that prevented a quick recovery? A. An overhang of unsold homes and falling house prices B. Low foreclosure rate and rising house prices C. High rate of new construction and rising house prices
A
Which of the following best defines the "Great Moderation"? A. The period between the mid-1980s and 2007 was marked by relatively stable GDP growth and low, stable inflation. B. The period between the mid-1980s and 2007 was marked by high, unchanging inflation. C. The period between the mid-1980s and 2007 was marked by higher than average unemployment and a slow decline of inflation.
A
Which of the following describes a lesson learned from the Great Inflation of the mid-1960s and 1970s? A. Using low interest rates to try to keep unemployment artificially low would end up creating high rates of inflation. B. The Fed could use monetary policy to push unemployment as low as possible, over the long-term, with the cost of higher-than-desired rates of inflation. C. Using monetary policy to push unemployment below rates that had been sustained in the past had no impact, short-term or long-term, on unemployment, but only resulted in spikes of inflation.
A
Which of the following is a way in which the central bank promotes clear communication about monetary policy? A. The Chairman began holding news conferences in 2011 to provide further explanation of monetary policy decisions. B. The Fed does not provide information about how it expects to adjust the federal funds rate in the future, so as to prevent misinformation from spreading. C. The Fed provides limited information about its goals and policy approach, as this information is confidential.
A
Which of the following most accurately characterizes the Great Depression? A. The Great Depression was a global financial and economic crisis, marked by high unemployment and an enormous contraction in the economy, which lasted until the advent of World War II. B. The Great Depression was a U.S. financial and economic crisis that lasted through the mid-1930s. This time period saw an enormous contraction in the economy, despite low inflation and unemployment. C. The Great Depression began during World War I, and lasted until World War II, and was marked by slow economic growth and excessively high unemployment.
A
According to Chairman Bernanke, how did the liquidationist perspective exacerbate the Great Depression? A. Liquidationism is the idea that the Federal Reserve should liquidate unstable or insolvent banks to stem the tide of financial panic. This led to the failure of a large number of banks, which negatively impacted the financial system and economy. B. Liquidationism supported the Fed's role as an aggressive "lender of last resort." The central bank provided easy access to liquidity, thus artificially sustaining failing banks. C. Liquidationism supported the Fed's economic policy of inaction, which led to rampant bank failures and unchecked economic decline.
C
During World War II and subsequently, why did the Treasury press the Fed to keep longer-term interest rates low? A. The U.S. economy was still recovering from the Great Depression and needed lower interest rates to stimulate investment and spending. B. Fears of a post-war economic slump drove the Treasury to seek ways to stimulate the U.S. economy and, by extension, the global economy. C. The U.S. government needed to finance its debt from World War II. Low interest rates by the Fed meant cheaper financing for that debt.
C
How did purchasing Treasury and GSE mortgage-related securities stimulate the economy? A. Purchasing securities is a standard method of pushing long-term interest rates higher, which would increase bank profits. B. Holding on to a large number of securities helped slow the ascent of the inflation rate. C. Reducing the supply of securities available to the market resulted in downward pressure on longer-term interest rates, which helped stimulate the economy.
C
How did the failure of Lehman Brothers affect money market funds (MMFs)? A. When Lehman Brothers collapsed, all of its MMFs became insolvent, causing investors to lose millions of dollars. B. Investors sought to substitute their investment in one MMF that held commercial paper issued by Lehman Brothers with investments in MMFs that had other sources of short-term funding besides commercial paper. This led to a collapse in MMFs. C. An MMF that held commercial paper issued by Lehman failed to maintain a $1 share price, which led to a loss of confidence in, and a run on, MMFs more broadly.
C
In October 2008, the G-7 countries agreed to work together to stabilize the global financial system through a number of measures, including preventing the failure of systemically important financial institutions and ensuring that financial institutions had access to capital and funding. According to Chairman Bernanke, how do we know these measures were successful? A. In fact, they were not successful. Many banks continued to fail well into 2009, thereby prolonging the global financial crisis. B. The United States and the United Kingdom, which were the first two countries to have the G-7 measures in place, saw immediate growth in GDP. C. Interbank lending rates, which had spiked in October 2008, fell dramatically after the G-7 agreement was announced, indicating increased confidence in the financial system.
C
The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 instituted wide-ranging reforms of financial regulation in the United States. What was one reason for these reforms? A. To continually monitor the Fed's large-scale purchases of securities B. To regulate the rise and fall of the federal funds rate C. To create a systemic approach to regulating the financial system as a whole
C
The financial and sovereign debt crisis in Europe affected the United States in what way? A. By increasing aggressive lending practices by banks B. By decreasing the value of the dollar against the euro C. By leading to increased risk aversion and volatility in financial markets
C
What is one way in which a tight credit market affected the economic recovery? A. Students are able to easily get credit, which affects the number of people going to college. B. People are able to easily get mortgages, which affects the number of homes being purchased. C. Small businesses have difficulty getting credit, which affects job creation
C
What is the goal of a central bank when it raises short-term interest rates? A. Raising interest rates encourages banks to loan money, which encourages spending and investment by households and businesses. B. Raising interest rates allows banks to borrow money from the Fed at favorable rates, which can reduce the likelihood of a financial panic. C. Raising interest rates can slow an economy that is growing at an unsustainable pace, which can cause a high rate of inflation.
C
Which of the following best describes the Fed's "lean against the wind" monetary policy? A. Set monetary policy to promote aggressive growth in the economy, despite inflation. This policy was required in order to recover from the Great Depression and pay off U.S. war debts B. Resist any sharp changes to monetary policy in response to changes in the economy. Allow the economy to expand and contract as the needs and conditions of the economy dictate, without using policy to influence outcomes. C. Raise interest rates when the economy is strong, to prevent inflation, and lower interest rates when the economy is weak, to stimulate growth.
C
Which of the following best describes the process of securitization of mortgages? A. This is the process the Fed uses to ensure that all mortgages issued by a bank are secure, and that the bank is not taking on too much risk in its lending practices. B. This is the process a bank uses to ensure that it is lending only to secure borrowers, which reduces the likelihood of default. C. This is the process of purchasing mortgages and bundling them for resale as mortgage-backed securities.
C
Which of the following best describes the provision of liquidity tool of central banks? A. A central bank requires banks to maintain a certain amount of "liquid assets," or cash on hand, to reduce the possibility of bank runs and financial panics. B. A central bank sets short-term interest rates for a nation's financial institutions. C. A central bank provides short-term loans to financial institutions or markets, which can help calm financial panics.
C
Which of the following does Chairman Bernanke discuss as a primary cause of the housing bubble? A. Chairman Bernanke argues that the Fed's loose monetary policy was a primary cause of the housing bubble. B. Chairman Bernanke argues that very few new houses were built in the 2000s, which made housing a scarce resource and in turn drove up prices of existing homes. C. Chairman Bernanke argues that soaring house prices and the deterioration of lending standards caused the housing bubble.
C
Which of the following factors is, according to Chairman Bernanke, a contributing factor to a stable economy? A. A steady upward course for stock market prices B. Rapid GDP growth C. Low, stable inflation
C
Which of the following is a primary cause of the reduction in the number of bank failures after 1933? A. The rash of bank failures in the early 1930s eliminated illiquid banks, so that only banks on solid financial footing remained by 1934. B. The Fed maintained a high interest rate in order to promote investment in U.S. companies and to promote the financial responsibility of banks. C. The Roosevelt Administration and the Congress created deposit insurance, which insured bank depositors against losses if a bank failed.
C
Which of the following provides the most accurate summary of the causes of the Great Depression? A. The Great Depression was caused primarily by the stock market crash of 1929, which saw stock prices plummet by more than 80 percent. The crash was so significant, that it took more than a decade for the U.S. economy to recover. B. The Great Depression was caused primarily by an overheated American economy, which resulted in an overabundance of goods and overconfidence in America's economic growth. C. The Great Depression had a number of causes, including the structure of the international gold standard, a bubble in stock prices, financial panics, and the economic and financial repercussions of World War I.
C
