ECON quiz questions
Armand buys a 10-year, $10,000 bond that pays him $500 every year for 10 years and repays the face value in year 10. During the 10-year period, the rate of inflation holds steady at 3% per year. The real rate of return on Armand's investment is
2%; real rate of return= (1+nominal/1+Inflation)-1
Julia is in the 10% marginal income tax bracket and earned a 4.5% return on the municipal bonds that just matured. The nominal interest rate paid on these bonds was
5%; 0.05= (0.045/(1-.10))
Gwen is considering buying either a corporate bond or a municipal bond that are exactly the same except for their yield. Gwen is in the 33% marginal tax bracket, and the municipal bond she is considering pays a 6% interest rate. To make Gwen indifferent between the two bonds, the corporate bond must offer an interest rate of
8.96%; 0.0896= (0.06/(1-0.33))
You give your friend $10,000 to help start a business, and you get $1,000 back. Your rate of return is
A rate of return is the ratio of the amount you get back to the amount you put in. In this case that is $1,000/$10,000 = 0.1, or 10%.
If the market for loanable funds is currently in equilibrium, a(n) __________ will cause an increase in the interest rate.
An increase in business confidence will make businesses want to borrow more, increasing the demand for loanable funds and causing the interest rate to increase.
If the market interest rate is the same as the coupon rate on a newly issued bond, then the bond will sell
At Par; When the market interest rate is the same as the coupon rate on a bond, the bond will sell at par.
When a newly issued bond sells above its face value, it is said to sell
At Premium; when a newly issued bond sells above its face value, it is said to sell at a premium
Assets accepted for repayment of debt to the government as well as private transactions are known as
Legal Tender; Assets accepted for repayment of debt to the government as well as private transactions are known as legal tender.
Shareen buys a 30-year, $10,000 US Treasury bond with a coupon rate of 5%. After two years she needs some cash so she decides to sell her bond. Shareen will sell her bond in the __________ market.
Secondary Bond; The secondary bond market is the market for bonds or other debt instruments previously issued.
You hear a report on the news by a well-respected financial analyst who says that the currently inverted yield curve is irrelevant to borrowing and lending decisions because yield curves are not an accurate reflection of the situation in bond markets. This analyst most likely is a proponent of the __________ theory of interest rates.
Segmented Market Theory; a framework where the short-term, medium term, and long-term bond markets are all different or segmented markets.
Institutions that compete with commercial banks because they perform some but not all of the functions of commercial banks are said to be part of the __________ banking industry.
Shadow; Commercial banks are facing increasing competition from institutions that perform some but not all of the functions that banks perform. These institutions are said to be part of the "shadow banking industry."
On payday you get paid in cash, so each week you put $10 into a shoebox in your closet so that you can buy a big-screen TV at the end of the year. In this situation, money is serving as a
Store of Value; By saving the money in a shoebox, you are counting on the money to retain its value until the time that you spend it.
In the late 1970s and early 1980s, as the Federal Reserve squeezed the growth of the money supply, interest rates shot up and
The unemployment rate shot up as well;
Some of the most important central banks in the world include
The Federal Reserve, the European central bank, and the bank of England.
Emily is in the 10% marginal income tax bracket and earned a 4.5% return on the corporate bonds that just matured. The nominal interest rate paid on these bonds was
The after-tax rate of return on a corporate bond is iAT = iBT(1 - z), where iAT is the after-tax rate of return, iBT is the before-tax (or nominal) rate of return, and z is the marginal tax rate. In this case, iBT = iAT / (1 - z), or iBT = 0.045 / (1 - 0.1) = 0.05, or 5%.
If the Interest rate is 5%, the value of $1,000 at the end of 10 years is
The future value of $1,000 ten years from today at 5% interest is $1,000[(1 + .05)^10] = $1,628.89.
If you borrow $1,000 today to be paid back one year from today at 5% interest, the payment you will have to make in one year will be
The payment on a $1,000 loan one year from today at 5% interest is $1,000(1 + .05) = $1,050.
You own a 10-year, $10,000 US Treasury bond with a coupon rate of 3%. There are two years left to maturity, and you are planning to sell the bond in the secondary market. If the interest rate is 5%, how much can you expect to get for the bond?
The price of a bond on the secondary market is the present value of the income stream it is expected to generate. In this case: PBOND = $300/(1+k) + $10,300/(1+k)^2 = $300/1.05 + $10,300/(1.05)^2 = $9,628.
__________ is the removal of funds from a financial intermediary (e.g., bank) to invest them directly, as through a mutual fund.
The removal of funds from a financial intermediary to invest them directly is known as disintermediation. Disintermediation causes the growth rate of M1 to decrease.
Default risk is the risk that a borrower will not live up to their promise to pay the interest or principal on their loan.
True; Default risk is the risk that a borrower will not make the principal or interest payments as promised.
The expansion of the "junk bond" market in the 1980s was one factor that allowed for the rapid increase in the number of leveraged buyouts.
True; Expansion of the "junk bond" market was one of the factors, along with deregulation of financial markets, that allowed for an increase in the number of leveraged buyouts.
Assets are things that are useful or things that have value
True; assets are things that are useful or things that have value
When a coffee shop lists a tall coffee on its menu at $2.95, the coffee shop is using money as a
Unit of account; Money has three functions in society: a medium of exchange, a unit of account, and a store of value. In this example, the price of the coffee represents a unit of account. A unit of account is an agreed upon method of placing relative value on goods and services.
Diedre works for a pension fund and is thinking of buying some bonds that have a nominal interest rate of 6%. She believes that the inflation rate over the life of the bond will be 2%. The ex-post real interest rate on this bond is
Unknown; because it says that she "believes" in order to find (Ex-post real interest rate= nominal IR- actual inflation)
Interest Rates
can represent the current price of money
The rate at which a lender needs to be compensated for taking on greater risk is known as a(n) __________ premium.
Default Risk; The rate at which a lender needs to be compensated for taking on a greater risk of default by the borrower is known as the default risk premium.
The risk that a bond issuer will not be able to live up to the promise they make when they issue a bond is known as __________ risk
Default; The risk that a bond holder bears due to the possibility that a bond issuer is unable to live up to their promise is known as default risk.
The supply of bonds is best described as a(n) __________ relationship between the price of bonds and the quantity of bonds supplied, all else equal.
Direct; The supply of bonds is a direct relationship between the price of bonds and the quantity of bonds supplied, all else equal.
The country of Bountiful is suffering from disastrous inflation of 100% per month, and as a result, the merchants and citizens have stopped using the domestic currency, bounties, for transactions. Instead they have begun to use zombies, the currency of their closest neighbor, Dark Shadows, for transactions. This practice is known as
Dollarization; the situation when the market participants use another country's currency as money.
The slope of a yield curve is always constant.
False; A yield curve can slope upward, downward, or be flat.
An increase in the price of bonds will cause a decrease in the demand for bonds.
False; An increase in the price of bonds will cause an increase in the quantity of bonds demanded.
If the market interest rate exceeds the coupon rate on a bond, the selling price of the bond will be greater than the bond's face value.
False; If the market interest rate exceeds the coupon rate on a bond, the selling price of the bond will be less than the bond's face value.
In the early 1980s, Paul Volcker used an easy monetary policy to bring inflation under control.
False; In the early 1980s, Paul Volcker used a tight monetary policy to bring inflation under control.
Lenders benefit from inflation
False; Inflation is bad for lenders because they will get paid back with dollars that have less purchasing power.
The panic of 1907 was essentially ended by one person, John D. Rockefelller
False; the financial panic ended by JPMorgan
Money that has no intrinsic value is known as
Fiat money is an asset that functions as money but has no intrinsic value, such as US currency.
__________, __________, and __________ are part of the "shadow banking industry."
Finance companies, insurance companies, mutual funds, investment banks, and private equity partnerships perform some but not all of the functions that banks perform and are therefore considered to be part of a "shadow banking industry."
Jenny has had a portion of stock in an e-commerce company for some time. She is ready to resell her stock. On what market would she do this?
Financial assets and instruments may be resold in the secondary market.
As the federal marginal tax rate rises, the advantage of municipal bonds over corporate bonds
Increases; The higher the marginal tax rate, the greater the advantage of municipal bonds over corporate bonds becomes, because the impact of a higher marginal tax rate on the after-tax rate of return gets larger and larger.
The demand for bonds is best described as a(n) __________ relationship between the price of bonds and the quantity of bonds demanded, all else equal.
Inverse; The demand for bonds is an inverse relationship between the price of bonds and the quality of bonds demanded, all else equal.
When stagflation began to appear in the US economy in the late 1960s, economists and policymakers were perplexed because they had never seen __________ and __________ at the same time.
high inflation rates; high unemployment rate; In the late 1960s, economists and policymakers were perplexed because they had never seen high unemployment rates and high inflation rates at the same time.
Bond prices and interest rates are
inversely related; Bond prices and interest rates move in opposite directions
When the economy simultaneously experiences growing unemployment and rising rates of inflation, it is called
stagflation; The combination of high unemployment with rising rates of inflation is referred to as stagflation.
Three things fully describe the aspects of a bond. They are
the face value, the coupon rate, and the term to maturity; A bond can be fully described by its face value, its coupon rate, and its term to maturity.
Suppose that the interest rate on a one-year bond is currently 3% and the market believes that the rate on a one-year bond one year from now will be 5%. If you follow the pure expectations theory of interest rates, then you would expect to see a(n) __________ yield curve.
upward-sloping; When the market believes that future interest rates will be higher than current interest rates, then pure expectations theorists would predict an upward- sloping yield curve.
One of the things that made the Savings & Loans eager to lend money for home mortgages was the existence of the
Federal Housing Administration; The existence of the Federal Housing Administration (FHA) helped make home mortgages more accessible to veterans returning from World War II by insuring mortgage lenders against losses that might arise from defaults.
The individual credited with ending the Panic of 1907 in the United States was
J. Pierpont Morgan; The person credited with ending the Panic of 1907 in the United States was J. Pierpont Morgan.
In the early twentieth century, which of the following US industries were dominated by trusts?
Steel, railroads, and banking; In the early twentieth century, some key US industries were dominated by trusts, including steel, oil, railroads, and banking.
A decrease in the demand for loanable funds would be caused by
a decrease in expectations about future inflation; When expectations about future inflation are moderated, it will lead to a decrease in the demand for loanable funds in the loanable funds market.
One of the most important functions of the US Federal Reserve is to serve as
a lender of last resort; In creating the Federal Reserve in 1913, the US Congress wanted something that would function as "a lender of last resort."
The Chairman of the Federal Reserve, Paul Volcker, decided that dealing with stagflation would require
a shift in focus by the Federal Reserve from targeting interest rates to targeting the rate of growth of the money supply.
The best way to measure the default risk premium that a borrower is paying is to
compare the interest rate the borrower pays with the risk-free premium, usually represented by the rate on US Treasury Securities; There is no perfect way to measure the degree of default risk, but the best way is to compare the rate paid by the borrower to the rate paid on a risk-free bond, usually US Treasury securities.
In a barter economy, the number of prices necessary will
depend on the number of goods exchanged in the economy; The number of prices in a barter economy is equal to the number of paired goods. Therefore, a single good "A" may have a price measured in terms of many other goods that people might trade for good "A."
An inverted yield curve likely means the
economy is headed for recession; When the yield curve is inverted, both the pure expectations theory of interest rates and the segmented market theory of interest rates suggest that the economy is headed for recession.
An increase in the supply of loanable funds could be caused by
expansionary monetary policy being followed by the Federal Reserve; When the Federal Reserve follows an expansionary monetary policy, it will increase the supply of loanable funds in the loanable funds market.
During World War II, US policymakers feared inflation would result from the dramatic increase in wartime spending. In order to prevent that inflation, US policymakers
implemented wage and price controls, issued war bonds, and rationed many commodities; During World War II, US policymakers implemented wage and price controls, issued war bonds, and rationed many commodities in order to prevent inflation.
During World War II, the US government financed the dramatic increase in wartime spending by
increasing tax rates and selling war bonds; During World War II, the United States financed the increase in wartime spending by increasing tax rates and also selling war bonds.
In the period following World War II, the US Treasury was in charge of monetary policy and instructed the Federal Reserve to
keep interest rates low in order to keep spending high; Until 1951 the US Treasury determined monetary policy, and immediately following World War II the Treasury had the Federal Reserve carry out a monetary policy to keep interest rates low in order to stimulate spending.
Financial markets bring together __________ and __________.
Borrowers and lenders are brought together in financial markets.
Which of the following would be most suitable as money?
Cigarettes; To function as money a commodity must be easily standardized, easily divisible, easy to carry around, physically durable, and broadly demanded. Cigarettes best meet these criteria.
Commercial banks face competition from a variety of institutions, including
Commercial banks face competition from a variety of institutions, including finance companies, insurance companies, mutual funds, investment banks, and private equity partnerships.
Which of the following characteristics would make a commodity a good candidate to function as money?
Commodity money must be easily standardized, easily divisible, easy to carry around, physically durable, and broadly demanded.
Which of the following is included in the M1 definition of the money supply?
M1 is comprised of currency in the hands of the public, demand deposits and other checkable deposits, and traveler's checks, less cash items in the process of collection.
Harold would be equally happy with receiving $95 today or $100 one year from today. Harold's friend Maud would be just as happy receiving $90 today or $100 one year from today. Based on this information, which of the following best describes the difference between Harold and Maud?
Maud has a higher rate of time preference than Harold. A high time preference implies a person wants very much to consume now as opposed to in the future. Maud will accept less money now than Harold, meaning she values current consumption more than Harold.
Financial Assets include which of the following?
Money, bonds, and stocks; Financial assets include all of the following: money, stocks, bonds, deposits in checking accounts, and deposits in savings accounts.
In the early days of the Federal Reserve, the Federal Reserve Bank of __________ quickly established itself as the most important of the 12 Federal Reserve banks.
New York; In the early days of the Federal Reserve system, the Federal Reserve Bank of New York quickly established itself as the most important of the 12 regional banks.
One of the most important prices determined in financial markets is the __________ rate.
One of the most important prices determined in financial markets is the interest rate.
The face value of a bond is the
Original amount of money borrowed by the bond issuer; The face value or bond principal is the original amount of money borrowed by the issuer of the bond.
