Macroeconomics Exam 3: (Ch. 10-12)
Toby takes a one year loan from the bank for $30,000. The bank charges a nominal interest rate of 6.5% per annum. The total amount Toby will have to pay to the bank after a year will be $_____________. Which of the following equations correctly describes the Fisher equation? The credit demand curve is the schedule that reports the relationship between the quantity of credit demanded and the ________ interest rate.
31950 Nominal interest rate = Real interest rate + Inflation. real
Which of the following can produce a movement along the credit demand curve?
A change in the real interest rate.
What is deposit insurance?
A program implemented in most countries to protect bank depositors, in full or in part, from losses caused by a bank's inability to pay its withdrawals.
Which of the following is true of the relationship between consumer sentiment and a recession?
Both directions of causality between consumer sentiment and recession are present in an economy.
How does fiat money differ from commodities like gold and silver that were used as money? If fiat money is intrinsically worthless, then why is it valuable?
Fiat money is intrinsically worthless, whereas gold and silver have intrinsic value. Fiat money is used as legal tender by government decree and other people will accept it as payment for transactions.
As the Choice and Consequence box on "Too Big to Fail" notes, bank regulators worry about the prospect of the failure of large financial institutions, dubbed "systemically important financial institutions" (SIFIs). How would the failure of a systemically important financial institution (SIFI) affect the economy?
Financial intermediation would likely be impaired, with negative consequences for the economy's performance.
Keynes's theory of multipliers involved an element of the self-fulfilling prophecy. Which of the following illustrates the concept of a self-fulfilling prophecy?
Firms expect an increase in demand in the future and so hire additional workers now, which leads to an increase in consumption demand.
In which of the following cases will the credit supply curve shift to the left?
Firms increase dividend payments to their shareholders. / Households expect an economic upturn ahead.
Which of the following statements correctly describes the effects of price controls?
Imposing these in inflationary times is economically destructive.
How does a bank manage risk?
It invests in a diverse set of assets.
Which of the following statements correctly describes features / implications of real business cycle (RBC) theory?
It suggests that technological progress is an important determinant of long-term fluctuations in growth.
Which of the following equations is the equation for velocity in the quantity theory of money?
Nominal GDP / Money Supply
The Evidence-Based Economics in the chapter identifies three key factors that caused the recession of 2007dash2009. How would Keynes's concept of animal spirits explain the creation of a housing bubble?
People believed that a house was a worthwhile investment, which led to an increased demand for housing and thus pushed prices up. This confirmed to people that housing was a worthwhile investment, which led to more demand, resulting in an upward spiral driven by optimism.
When workers are laid off, what happens to physical capital?
Physical capital becomes less productive, leading firms to reduce capacity utilization.
Who bears the risk that a bank faces when stockholders' equity is greater than zero?
The bank's stockholders.
During the financial crisis of 2007-2008, many central banks, including the Federal Reserve and the Bank of Japan, lowered their federal funds rate (or the non-U.S. equivalent) to around zero. The Bank of Japan took an additional, unusual measure: it introduced a negative short-term interest rate on excess reserves. Faced with a negative interest rate, banks must pay to lend their excess reserves to other banks. Given this information, which of the following is likely to happen as a result of this policy change?
The demand curve for reserves will shift to the left.
What is stockholders' equity?
The difference between a bank's total assets and total liabilities.
If the inflation rate is negative, what must be true?
The growth rate of real GDP > the growth rate of money supply.
Why is the rise in housing prices between the late 1990s and 2006 characterized as a bubble by some economists?
The large increase in the price of housing assets did not reflect the true long-run value of the assets.
Some economists stress the role of monetary policy in the period leading up to the recession of 2007dash2009. Between 2001 and 2003, the Federal Reserve lowered the target federal funds rate from 6.5% to 1%, and kept it there through much of 2004. This resulted in a substantial decline in real interest rates throughout the economy, including mortgage rates. Based on the chapter's discussion of monetary and financial factors, how could the Federal Reserve's policies have contributed to the economic "bubble" of the pre-recession years of 2000dash2006?
The low federal funds rate also lowered mortgage rates, driving an increase in demand for housing, which in turn drove up real estate prices.
In August, 1979, the annual rate of inflation in the U.S. was nearly 12%, and the U.S. short-term nominal interest rate was nearly 10%. Over the next 35 years, both the rate of inflation and short-term nominal interest rate tended to fall. By August 2014, the rate of inflation was about 2% and the short-term nominal interest rate was close to 0%. How has the real short-term interest rate changed from 1979 to 2014? Why do the inflation rate and the nominal interest rate tend to move together over the long-run?
The real rate remained stable at minus - 2%. This synchronized movement indicates that credit market conditions have tended to be relatively stable over time. / Their up and down together movement tells us that the real interest rate is relatively stable in the long run.
What does it mean to say that an economic fluctuation involves the co-movement of many aggregate macroeconomic variables?
These variables grow or contract together during booms and recessions.
Which of the following statements best describes financial intermediaries?
They provide a bridge from lenders to borrowers of financial capital.
Which of the following options would result in an efficient allocation of this amount in the economy?
Tina deposits this amount in a bank so that it could then be lent to possibly more reliable borrowers than Brad.
Which of the following explains why a central bank would choose to lower interest rates on reserves below zero?
To stimulate the economy
Excluding cases where banks had accumulated a lot of non-deposit liabilities that are not covered by FDIC insurance, would analysts generally agree that deposit insurance has been successful in preventing bank runs?
Yes, since bank runs and bank failures have been relatively rare since the advent of deposit insurance.
Are the predictions of the quantity theory of money borne out by historical data?
Yes, the long-run data show a one-for-one growth rate of money supply and inflation.
Firms, households, and governments use the credit market for borrowing. The credit demand curve shows the relationship between the quantity of credit demanded and the real interest rate. The credit demand curve slopes downward because ____________. A shift in the credit demand curve can be caused by ___________.
a higher real interest rate reduces a borrowing firm's profit and hence its willingness to borrow. changes in perceived business opportunities for firms / changes in government policy / changes in household preferences or expectations
All of the following individuals would be negatively impacted by rising inflation except ____________.
a homeowner with a fixed-rate mortgage.
Groceries Galore is a new start-up company that provides grocery shopping, grocery delivery, and catering services for busy professionals with no time to shop. The initial research shows good growth potential. Groceries Galore is most likely to be funded by ____________.
a venture capital fund.
A cash equivalent would be recorded as _____________ on the bank's balance sheet and is considered ____________ , as its value ____________________ from day to day.
an asset / riskless / remains constant
The concept of multipliers was one of the key elements of John Maynard Keynes's theory of fluctuations. A multiplier is ____________.
an economic mechanism that causes an initial shock to be amplified by follow-on effects.
A shift in the credit supply curve can be caused by ____________.
an elevated perception on the part of households that the future may hold many "rainy days." / a heightened desire on the part of firms to internally fund their future activities. / an aging population that is ill-prepared for retirement.
An open market operation is ____________.
an exchange between a private bank and the Federal Reserve where the Fed buys or sells government bonds to private banks.
A bank run is ____________.
an extraordinarily large volume of withdrawals driven by a concern that a bank will run out of liquid assets with which to pay withdrawals.
During the oil shocks of the 1970s and 1980s, price controls were imposed to control rising fuel prices and slow down inflation. Price controls like these often result in ____________.
an inefficient solution to inflation by creating disruptions in supply and a shortage of goods.
An economic expansion begins ____________.
at the end of a recession.
The Federal Reserve is referred to as the "lender of last resort" because ____________.
banks borrow from the Fed's discount window when other banks won't lend to them.
An economic expansion that occurs close to full employment ____________.
can cause inflation with very little employment and output growth.
Recessions are periods in which the economy ____________, while economic expansions are defined as the periods ________________.
contracts / between recessions
The M2 money supply is defined to include ___________.
currency in circulation, checking accounts, savings accounts, travelers' checks, and money market accounts.
Economic agents who borrow funds are known as ____________ , the funds that they borrow are referred to as ___________ , and this activity occurs in the ______________________ market.
debtors / credit / credit or loanable funds
According to the graph, this action by Congress causes the equilibrium real interest rate to _______________ and the equilibrium quantity to ______________.
decrease / decrease
During recessions, there is a(n) _____ in consumer sentiment.
dip
The charging of interest ______________ savers to lend their excess money to borrowers as compensation for risk. Therefore, the credit market can ___________ the allocation of resources in the economy. A downside of charging interest could be the _______________ accumulation of the overall money supply by lenders.
encourages / improve / increased
It follows that the growth rate of money supply and the growth rate of nominal GDP will be the same. In this case, inflation is ____________.
equal to the gap between the growth rate of money supply and the growth rate of real GDP.
The duration of an economic fluctuation ____________.
has limited predictability.
Households and firms with savings lend money to banks and other financial institutions. The credit supply curve shows the relationship between the quantity of credit supplied and the real interest rate. The credit supply curve slopes upward because a ____________.
higher real interest rate discourages current consumption / higher real interest rate encourages more saving
If wages were flexible, employment would have been _____________ employment with rigid wages.
higher than
While economic booms are generally positive, they also have a dark side. This is because ____________.
if the economy is close to full employment and full capacity utilization before the beginning of the boom, the economy might eventually experience a leftward shift in labor demand, causing a recession rather than a gentle fall to pre-boom levels.
According to the quantity theory of money, ____________.
in the long run, the growth in the money supply is directly related to the inflation rate.
According to the graph, this perception causes the equilibrium real interest rate to __________ and the equilibrium quantity to __________________.
increase / be indeterminate
If a country enacts fiscal policy to alleviate a recession by lowering taxes and increasing government spending, this will likely __________ the deficit and ___________ the risk of inflation.
increase / increase
How did the fall in housing prices cause the entire financial system in the United States to freeze up? The fall in housing prices resulted in _________________ , leading to enormous ______________ , disrupting the banks' ability and willingness to make loans to ______________.
increased defaults / bank loses / consumers and firms
When the Fed buys government bonds from private banks, it ____________ the electronic reserves that banks hold.
increases
The Federal Reserve conducts open market operations when it wants to ____________.
influence the federal funds rate.
Failure of an investment bank is typically more serious than failure of a regional bank because ____________.
investment banks are not FDIC insured, liabilities are larger, and bank runs can trigger stock market collapses.
According to the concept of persistence in the rate of growth, if the economy contracts this quarter, it will ____________.
likely contract next quarter.
Banks provide credit by ____________.
matching people with savings to those who want to use those savings.
The cost to a business from frequently changing its prices due to high inflation rates is called ____________.
menu cost
If an economic boom is present, it is likely to be represented by a ____________.
movement up the Phillips curve.
Inflation can have a positive effect on production if ___________.
nominal wages do not adjust.
Banks usually hold a small pool of reserves because ____________.
on most days the withdrawals of existing deposits are roughly offset by inflows of new deposits.
The national income identity shows that ___________.
output is a function of consumption, investment, government spending, and net exports.
If the growth rate of money supply is larger than the growth rate of real GDP, the inflation rate is __________.
positive
When repaying a loan, the payment a borrower makes consists of ____________.
principal and interest
As the real interest rate rises, the opportunity cost of current consumption ______ . This causes the credit supply curve to have a _____________ slope. If an economy has a large aging population that is increasing, one would expect the credit supply curve to shift _____________.
rises / positive / rightward
If an economic shock increases labor demand, equilibrium employment ________ and real GDP ___________. If wages are flexible, the increase in employment and real GDP will be __________ the increase if wages are rigid.
rises / rises smaller than
Economic fluctuations are ____________.
short-run changes in the growth of GDP.
Maturity transformation is a process that transfers _________________ into long-term investments. To avoid maturity mismatch, banks hold back some fraction of the deposit pool as _____________ .
short-term liabilities / reserves
When the value of a bank's assets is greater than its liabilities, the bank is said to be ____________.
solvent
By affecting certain key interest rates, the Fed can indirectly control the money __________. The Fed's dual mandate is to maintain _______ levels of inflation while allowing for sustainable levels of _______________.
supply / low / GDP growth
A central bank is the government institution ____________.
that runs a country's monetary system.
The recession of 2007dash2009 affected the components of the national income identity by primarily affecting ____________.
the C and I components through a reduction in consumer wealth and a drop in housing construction.
According to Keynes's view on animal spirits, ____________.
the economy could fluctuate beyond the level that could be explained by the underlying economic fundamentals.
Using sophisticated statistical techniques, economists can usually predict ____________.
the end of a recession.
According to the quantity theory of money, the inflation rate is
the gap between the growth rate of money supply and the growth rate of real GDP.
Recall the discussion in the chapter about the "quantity theory of money." The quantity theory of money assumes that ____________.
the ratio of money supply to nominal GDP is exactly constant.
One major difference between modeling economic busts and booms is that ____________.
there is no issue of rigid nominal wages when modeling booms.
In the United States, recessions are usually defined as ____________.
two consecutive quarters of negative growth in real GDP.
Recall from the chapter that banks in the United States hold a fraction of their checking deposits as reserves, either as vault cash or as deposits with the Federal Reserve (where they earn very little interest). Regulations require them to hold a certain percentage (currently 10 percent) of their checking deposits as reserves. However, banks are free to hold additional reserves if they choose. The latter are called excess reserves. Ordinarily, banks held very few excess reserves. However, starting in the financial crisis of 2007dash2009, the amount of excess reserves held by banks went from virtually zero to over 1.8 trillion dollars. Explain why banks would be expected to try to minimize the amount of excess reserves that they hold.
-Excess reserves yield little in the way of earnings for banks, thus making difficult the generation of satisfactory profit. -Banks are privately owned businesses and thus have the goal of maximizing profits for their shareholders. -Normally, other assets can be expected to generate much higher returns for banks.
What steps do bank regulators take to prevent SIFIs from failing or to minimize the effect of such failures?
-Mandate that banks hold more stockholders' equity. -Require banks to take on less risk. -Require banks to establish "living wills," procedures for their treatment in the event they become insolvent.
Which of the following are possible benefits of inflation?
-Revenue is generated to the government when it prints money. -There may be a reduction in real wages. -There may be a reduction in the real interest rate.
Which of the following statements correctly describe economic fluctuations?
-Short-run changes in the growth of GDP are referred to as economic fluctuations. -Economic fluctuations tend to be difficult to predict.
Based on what you learned about banking in the chapter, explain why you think that the crisis prompted banks to dramatically expand the amount of excess reserves they held.
-The Federal Reserve made excess reserves attractive to hold by paying interest for the first time in history. -There was a sharp decline in profitable private sector lending opportunities for financial intermediaries. -Confidence was shaken so severely by the crisis that banks chose to effectively ration credit among viable borrowers, including other banks.
Suppose the government prints and spends new currency. Which of the following statements are true in this case?
-The citizens lose because the resulting inflation reduces the real value of the currency that they already hold. -The citizens gain because their government has more money to spend. -Printing/spending a modest amount of new currency is socially beneficial.
Which of the following statements are true when a bank is insolvent?
-The government bank regulator shuts down this bank's operations and makes payouts to its depositors. -The bank owes more than it owns. -The bank's stockholders' equity goes to zero.
Which of the following are consequences of an economic expansion when the labor market is already close to full employment?
-The optimism or other factors that originally triggered the boom may get reversed at some point and create negative multiplier effects. -The boom is likely to generate a great deal of wage inflation and very little employment and output growth.
What are the costs associated with inflation?
-Uncertainty about the aggregate price level, which can distort prices and make planning difficult. -Unproductive policies such as price controls, which may be due to voter dissatisfaction. -Logistical costs related to the need to frequently change prices.
-A financial intermediary that invests in start up companies that have no track record. -A financial intermediary that gathers funds from a small number of very wealthy individuals and buys stock in companies that are in deep financial trouble. -A financial intermediary that takes loans from large investors and uses them to create new financial products that it could sell to other institutions and wealthy investors. -A financial intermediary that gathers funds from a small number of wealthy institutions and buys a privately owned family business. -A financial intermediary that enables Sam and Emma to use their savings to buy a share of ownership in Microsoft Corporation and to lend money to Microsoft Corporation respectively.
-Venture capital fund -Hedge fund -Shadow banking system -Private equity fund -Asset management company
An example of a multiplier is when ____________.
-a drop in consumer confidence reduces household spending, causing firms to cut production and lay off employees, leading to a greater reduction in household spending. -an increase in business confidence causes firms to increase production and hire employees, leading to an increase in household spending, causing firms to further increase production and employment.
The factors that would shift the demand curve for reserves include ____________.
-anticipated liquidity shocks. -an economic expansion or contraction. -a changing deposit base.
The functions of a central bank are to ____________.
-control certain key interest rates -indirectly control the money supply -monitor financial institutions.
-Inflation is the ____________. -Deflation is ____________. -Hyperinflation is ____________.
-growth rate of the overall price level in the economy. -the rate of decrease of the overall price level in the economy. -a doubling of the price level within three years.
-The federal funds rate is the ____________. -The funds that are lent in this market are ____________.
-interest rate in the federal funds market where banks obtain overnight loans of reserves from one another. -reserves at the Federal Reserve Bank.
When the value of a U.S. bank's assets become less than its liabilities, the government, through the FDIC, ___________.
-shuts the bank down and makes payouts to its depositors. -searches for a healthy bank to take over its operations.
If a bank runs short of reserves, a reasonable step would be to ____________.
-stop making new loans. -sell some of its illiquid long-term assets.
This implies that if the money supply grows by 10 percent, then nominal GDP needs to grow by _____________.
10 percent
