Econ 310 Chapter 4

Why is the demand for money curve downward​ sloping? A. As interest rates​ decrease, the demand for money increases. B. As interest rates​ decrease, the demand for money decreases. C. As interest rates​ increase, the demand for money increases. D. As interest rates​ decrease, the supply of money decreases.

A. As interest rates decrease, the demand for money increases (INVERSE RELATIONSHIP)

Which of the following would shift the supply curve for bonds to the​ right? ​(Check all correct​ answers.) A. ​Firm's expected profitability increases. B. Expected inflation decreases. C. Government borrowing increases. D. Corporate taxes increase. E. Subsidies to business increase.

A. Firm's expected profitability increases C. Govt borrowing increases E. Subsidies to business increase

Global Savings Glut

A situation where desired savings exceeds desired investment

Which of the following would shift the demand curve for bonds to the​ left? ​(Check all correct​ answers.) A. ​Households' wealth decreases. B. The expected return on stocks increases. C. The liquidity of bonds increases. D. Expected inflation increases. E. The expected return on bonds relative to other assets increases.

A. Households' wealth decreases B. The expected return on stocks increases D. Expected Inflation increases

Idiosyncratic Risk (unsystematic)

Risk that pertains to a particular asset rather than to the market as a whole

Market risk

Risk the is common to all assets of a certain type

Money Market Model

Shows how ST nominal interest rate is determined by supply and demand for money (Y axis= interest rate, X axis = Quantity of Money)

Loanable Funds Market Approach

The use of funds is the good, the firm (borrower) raising funds is the buyer, the Investor (lender) supplying funds is the seller, the interest rate is the price

Large Open Economy

an economy in which changes in the demand and supply for loanable funds are large enough to affect the world real interest rate

Open Economy

an economy that interacts freely with other economies around the world, world interest rate is determined by the international capital market

Closed Economy

economy that does not interact with other economies in the world

Which of the following best describes the effect of a global savings​ glut? A. The increased savings in the rest of the world increases international​ lending, lowering the world interest​ rate, and increasing international borrowing in the United States. B. The increased savings in the rest of the world decreases international​ lending, raising the world interest​ rate; thus converting the United States from a lender to a borrower. C. The increased savings in the rest of the world increases international​ lending, lowering the world interest​ rate; thus converting the United States from a borrower to a lender. D. The increased savings in the rest of the world decreases international​ lending, raising the world interest​ rate, and decreasing international borrowing in the United States.

A. The increased savings in the rest of the world increases international lending, lowering the world interest rate, and increasing international borrowing in the United States

As the wealth of investors​ increases, all else held​ constant, the interest rate on bonds should fall. A. True-A shift to the right in the demand curve will push prices up and yield down. B. False-A shift to the right in the demand curve will push both prices and yield down. C. True-A shift to the left in the demand curve will push prices down and yield up. D. False-A shift to the left in the demand curve will push prices down and yield up.

A. True- A shift to the right in the demand curve will push prices up and the yield down

Small Open Economy

An economy that trades goods and services with other economies and, by itself, has a negligible effect on world prices and interest rates

How do economists define expected return and​ risk? A. Expected return is the price of an asset a year from​ now, while risk is the degree of uncertainty in the return a year from now. B. Expected return is the return expected on an asset during a future​ period, while risk is the degree of uncertainty in the return on an asset. C. Risk is the return expected on an asset during a future​ period, while expected return is the degree of uncertainty in the return on an asset. D. Risk is the price of an asset a year from​ now, while expected return is the degree of uncertainty in the return a year from now.

B. Expected return is the return expected on an asset during a future period, while risk is the degree of uncertainty in the return of an asset

If investors start to believe that the U.S. government might default on its​ bonds, the interest rate on those bonds will fall. A. False-This would cause a shift to the​ left, pushing both price and yield up. B. False-This would cause a shift to the​ left, pushing price down and yield up. C. True-This would cause a shift to the​ left, pushing both price and yield down. D. True-This would cause a shift to the​ right, pushing price down and yield up.

B. False- This would cause a shift to the left, pushing prices down and yield up

When are economists most likely to use the bond market approach to analyze changes in interest​ rates? When are economists most likely to use the loanable funds​ approach? A. The bond market model is a​ medium-term model that focuses on movements in the bond market. The loanable funds model distinguishes the correlation between the interest rate and the exchange rate. B. The bond market model is a​ medium-term model that focuses on movements in the bond market. The loanable funds model is generally a​ long-term model when discussing global savings and​ long-term global interest rates. C. The bond market model is generally a​ long-term model that focuses on movements in the bond market. The loanable funds model is a​ medium-term model that focuses on movements in the loan market. D. Both models are used to identify the relationship between the bond price and the interest rate.

B. The bond market is a medium-term model that focuses on the movements in the end market. The loanable funds model is generally a long-term model when discussing global savings and long-term global interest rates

Why should a debate over the cause of low interest rates matter? A. There is a debate over whether the Federal Reserve was responsible for low interest rates or whether the global savings glut was responsible. If the global savings glut was​ responsible, we could argue that the Federal Reserve should take more blame for the artificially low interest rates that helped reduce the housing bubble. B. There is a debate over whether the Federal Reserve was responsible for low interest rates or whether the global savings glut was responsible. If the global savings glut was​ responsible, we could argue that the Federal Reserve should take less blame for the artificially low interest rates that helped facilitate the housing bubble. C. There is a debate over whether the Federal Reserve was responsible for low interest rates or whether the global savings glut was responsible. If the global savings glut was​ responsible, we could definitely agree that the Federal Reserve should take less blame for the artificially low interest rates that helped facilitate the housing bubble. D. None of the above.

B. There is a debate over whether the Fed was responsible for low interest rates or whether the global savings glut was responsible. If the global savings glut was responsible, we could argue that the Fed should take less blame for the artificially low interest rates that helped facilitate the housing bubble.

How does Diversification reduce the risk of a financial portfolio? By determining if an asset produces market risk or idiosyncratic​ risk, an investor can then determine how well the asset will perform. B. By allocating savings to only one asset​ class, if the asset performs​ well, the benefit from the investment will be huge. C. By allocating savings among many different​ assets, if one asset class performs​ poorly, the rest of the portfolio may perform well. D. By accurately calculating the expected return of an​ asset, investors will be guaranteed a strong return.

C. By allocating savings to among different assets, if one asset class performs poorly, the rest of the portfolio may perform well

What are the determinants of asset​ demand? A. The expected rate of return and the degree of risk for an investment compared to alternative investments. B. The total amount of savings to be allocated among investments. C. The liquidity of the investment compared with other investments. D. All of the above.

D. All of the above

The higher the price of​ bonds, the greater the quantity of bonds demanded. A. True-The higher the price of​ bonds, the higher the interest paid on the bonds is and therefore the greater the quantity of bonds demanded. B. True-The higher the price of​ bonds, the higher their future value and therefore the greater the quantity of bonds demanded. C. False-The price of bonds does not influence the quantity of bonds demanded. D. False-The higher the price of​ bonds, the lower the quantity of bonds demanded.

D. False-The higher the price of bonds, the lower the quantity of bonds demanded

What is meant by the term​ "risk averse"? A. It refers to investors who prefer risk to safe​ investments, meaning that​ risk-averse investors would choose gambling over any form of investment. B. It refers to investors who have an aversion to​ risk, meaning that when choosing between two​ assets, risk-averse investors would ignore risk and only consider expected return. C. It refers to investors who prefer risk to safe​ investments, meaning that when choosing between two​ assets, risk-averse investors would choose the asset with the possibility of maximizing return. D. It refers to investors who have an aversion to​ risk, meaning that when choosing between two assets with the same expected​ returns, risk-averse investors would choose the asset with the lower risk.

D. It refers to investors who have an aversion to risk, meaning that when choosing between two assets with the same expected returns, risk-averse investors would choose the asset with lower risk

4 Determinants of Portfolio Choice

1. Investor's wealth 2. Expected rate of return 3. Degree of risk 4. Liquidity (will accept lower return on more liquid asset) 5. Cost of acquiring information

Shifts in Demand of M

1. Real GDP --> Increase = shift to the right 2. Price Level: Higher means more money required --> shift to the right

The lower the price of​ bonds, the smaller the quantity of bonds supplied. A. True-The lower the​ price, the higher the​ yield, which decreases the cost of borrowing. B. False-The price of bonds does not influence the quantity of bonds supplied. C. True-The lower the​ price, the higher the​ yield, which increases the cost of borrowing. D. False-The lower the​ price, the lower the​ yield, which increases the cost of borrowing.

C. True-The lower the price, the higher the yield, which increases the cost of borrowing

Fisher Effect

the assertion by Irving Fisher that the nominal interest rises or falls point-for-point with changes in the expected inflation rate -Higher inflation results in higher nominal interest rates and vise versa -changes in expected inflation can lead to changes in minimal interest rates before a change in actual inflation has occured