Money & Banking - Exam 1 Review

________ is a flow of earnings per unit of time. A) Currency B) Income C) Wealth D) Money

B) Income

Which of the following is a TRUE statement? A) Money and income are flow variables. B) Income is a flow variable. C) Money and income are stock variables. D) Money is a flow variable.

B) Income is a flow variable.

Which of the following bonds are considered to be default-risk free? A) investment-grade bonds B) U.S. Treasury bonds C) municipal bonds D) junk bonds

B) U.S. Treasury bonds

Liabilities

are debts or financial obligations that must be repaid.

Of the four sources of external funding for nonfinancial businesses, the least often used in the U.S. is A) stock. B) nonbank loans. C) bank loans. D) bonds.

A) stock.

The currency component includes paper money and coins held in A) the hands of the nonbank public. B) bank vaults. C) ATMs. D) the central bank.

A) the hands of the nonbank public.

According to the liquidity premium theory of the term structure A) 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 term premium. B) because of the positive term premium, the yield curve will not be observed to be downward sloping. C) the interest rate for each maturity bond is determined by supply and demand for that maturity bond. D) because buyers of bonds may prefer bonds of one maturity over another, interest rates on bonds of different maturities do not move together over time.

A) 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 term premium.

Everything else held constant, if the tax-exempt status of municipal bonds were eliminated, then A) the interest rate on municipal bonds would exceed the rate on Treasury bonds. B) the interest rates on municipal bonds would still be less than the interest rate on Treasury bonds. C) the interest rate on municipal bonds would equal the rate on Treasury bonds. D) the interest rates on municipal, Treasury, and corporate bonds would all increase.

A) the interest rate on municipal bonds would exceed the rate on Treasury bonds.

Rank the following assets from most liquid ​(1​) to least liquid (6​): a. Checking account deposits b. Houses c. Currency d. Automobile e. Savings deposits f. Common stock

1. c. Currency 2. a. Checking account deposits 3. e. Savings deposits 4. f. Common stock 5. d. Automobile 6. b. Houses

Eurobonds

A bond denominated in a currency other than that of the country in which it is sold—for example, a bond denominated in US dollars sold in London.

Primary market

A financial market in which new issues of a​ security, such as a bond or a​ stock, are sold to initial buyers by the corporation or government agency borrowing the funds.

Money market

A financial market in which only​ short-term debt instruments​ (generally those with original maturity of less than one​ year) are traded.

Secondary market

A financial market in which securities that have been previously issued can be resold.

Capital market

A market in which​ longer-term debt​ (generally those with original maturity of one year or​ greater) and equity instruments are traded.

Debt market

A market where bonds or​ mortgages, which are contractual agreements by the borrower to pay the holder of the instrument fixed dollar amounts at regular intervals until a specified date when a final payment is​ made, are traded.

Asymmetric information

A situation where one party often does not know enough about the other party to make accurate decisions.

Moral hazard

A situation where the borrower might engage in activities that are undesirable from the​ lender's point of​ view, because they make it less likely that the loan will be paid back.

________ is a process of bundling together smaller loans (like mortgages) into standard debt securities. A) Securitization B) Origination C) Distribution D) Debt deflation

A) Securitization

The process of indirect finance using financial intermediaries is called A) financial intermediation. B) resource allocation. C) financial liquidation. D) direct lending.

A) financial intermediation.

The conversion of a barter economy to one that uses money A) increases efficiency by reducing transactions costs. B) increases efficiency by reducing the need to exchange goods and services. C) does not increase economic efficiency. D) increases efficiency by reducing the need to specialize.

A) increases efficiency by reducing transactions costs.

An equal decrease in all bond interest rates A) increases the price of a ten-year bond more than the price of a five-year bond. B) decreases the price of a ten-year bond more than the price of a five-year bond. C) decreases the price of a five-year bond more than the price of a ten-year bond. D) increases the price of a five-year bond more than the price of a ten-year bond.

A) increases the price of a ten-year bond more than the price of a five-year bond.

Prices and returns for ________ bonds are more volatile than those for ________ bonds, everything else held constant. A) long-term; short-term B) long-term; long-term C) short-term; long-term D) short-term; short-term

A) long-term; short-term

The yield to maturity for a discount bond is ________ related to the current bond price. A) negatively B) positively C) directly D) not

A) negatively

Thrift institutions include A) savings and loan associations, mutual savings banks, and credit unions. B) finance companies, mutual funds, and money market funds. C) banks, mutual funds, and insurance companies. D) pension funds, mutual funds, and banks.

A) savings and loan associations, mutual savings banks, and credit unions.

When there are many goods in a barter system, A) there are multiple prices for each good. B) exchange of services is impossible. C) there is only one store of value. D) transactions costs are minimized.

A) there are multiple prices for each good.

The ________ is below the coupon rate when the bond price is ________ its par value. A) yield to maturity; above B) discount rate; above C) yield to maturity; below D) discount rate; below

A) yield to maturity; above

In​ 2008, as a financial crisis began to unfold in the United​ States, the FDIC raised the limit on insured losses to bank depositors from​ $100,000 per account to​ $250,000 per account. How would this help stabilize the financial​ system? A. It would reassure depositors that their money was safe in banks and prevent a possible bank panic. B. It would enable banks to lower interest rates​ (as money is more​ safe) and decrease future interest payments. C. It would attract new foreign depositors and rapidly increase the cash amounts available to banks. D. It would decrease​ banks' reserve requirements and thus increase their available assets.

A. It would reassure depositors that their money was safe in banks and prevent a possible bank panic.

In which of the following situations do financial markets allow consumers to better time their​ purchases? ​(Select all that apply.​) A. Purchasing a car or furniture. B. Paying the cost of repairing a flooded basement. C. Buying groceries. D. Paying for tuition

A. Purchasing a car or furniture. B. Paying the cost of repairing a flooded basement. D. Paying for tuition

How do financial intermediaries benefit by providing​ risk-sharing services? A. They are able to earn a profit on the spread between the returns they earn on risky assets and the payments they make on the assets they have sold B. They are able to turn safe assets into​ high-risk, high-return investments C. A collection of riskier assets is always more profitable for a bank or intermediary D. Customers pay a fee to financial intermediaries for being able to invest in safer assets

A. They are able to earn a profit on the spread between the returns they earn on risky assets and the payments they make on the assets they have sold

Which of the following is measured as a flow per unit of​ time? A. income B. money supply C. money D. wealth

A. income

The maturity of a debt instrument is the number of years​ (term) until that​ instrument's expiration date. Identify the term to maturity of the following financial​ instruments: A​ 30-year corporate bond. A​ money-market instrument with a maturity of 6 months. A Treasury note with a maturity of 5 or 10 years. A​ 90-day Treasury bill.

A​ 30-year corporate bond: Long-term A​ money-market instrument with a maturity of 6 months: Short-term A Treasury note with a maturity of 5 or 10 years: Intermediate-term A​ 90-day Treasury bill: Short-term

Which of the following $1,000 face-value securities has the lowest yield to maturity? A) a 15 percent coupon bond selling for $900 B) a 5 percent coupon bond selling for $1,000 C) a 15 percent coupon bond selling for $1,000 D) a 10 percent coupon bond selling for $1,000

B) a 5 percent coupon bond selling for $1,000

The problem created by asymmetric information before the transaction occurs is called ________, while the problem created after the transaction occurs is called ________. A) free-riding; costly state verification B) adverse selection; moral hazard C) costly state verification; free-riding D) moral hazard; adverse selection

B) adverse selection; moral hazard

When asset prices rise above their fundamental economic values, a(n) ________ occurs. A) liability war B) asset-price bubble C) decline in lending D) decrease in moral hazard

B) asset-price bubble

As the payments system evolves from barter to a monetary system, A) the number of prices that need to be calculated increase rather dramatically. B) commodity money is likely to precede the use of paper currency. C) specialization decreases. D) transaction costs increase.

B) commodity money is likely to precede the use of paper currency.

The primary assets of credit unions are A) municipal bonds. B) consumer loans. C) mortgages. D) business loans.

B) consumer loans

An increase in the interest rate A) increases the demand for money. B) decreases the quantity of money demanded. C) decreases the demand for money. D) increases the quantity of money demanded.

B) decreases the quantity of money demanded.

As default risk increases, the expected return on corporate bonds ________, and the return becomes ________ uncertain, everything else held constant. A) decreases; less B) decreases; more C) increases; less D) increases; more

B) decreases; more

When the inflation rate is expected to increase, the ________ for bonds falls, while the ________ curve shifts to the right, everything else held constant. A) demand; demand B) demand; supply C) supply; supply D) supply; demand

B) demand; supply

Risk averse investors always prefer to have higher ________ and lower ________ of the return. A) standard deviation; prices B) expected return; standard deviation C) prices; standard deviation D) standard deviation; expected return

B) expected return; standard deviation

If merchants in the country Zed choose to close their doors, preferring to be stuck with rotting merchandise rather than worthless currency, then one can conclude that Zed is experiencing a A) disinflation. B) hyperinflation. C) hyperdeflation. D) superdeflation.

B) hyperinflation.

When the Treasury 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 ________. A) left; left B) left; right C) right; right D) right; left

B) left; right

Kevin purchasing concert tickets with a $100 bill is an example of the ________ function of money. A) unit of account B) medium of exchange C) specialization D) store of value

B) medium of exchange

Another name for a consol is a ________ because it is a bond with no maturity date. The owner receives fixed coupon payments forever. A) high-yield bond B) perpetuity C) municipality D) discount bond

B) perpetuity

The originate-to-distribute business model has a serious ________ problem since the mortgage broker has little incentive to make sure that the mortgagee is a good credit risk. A) democratization of credit B) principal-agent C) collateralized debt D) debt deflation

B) principal-agent

The spread between the interest rates on bonds with default risk and default-free bonds is called the A) default premium. B) risk premium. C) bond margin. D) junk margin.

B) risk premium.

Patrick places his pocket change into his savings bank on his desk each evening. By his actions, Patrick indicates that he believes that money is a A) unit of specialization. B) store of value. C) unit of account. D) medium of exchange.

B) store of value.

Government regulations require publicly traded firms to provide information, reducing A) economies of scale. B) the adverse selection problem. C) transactions costs. D) the need for diversification.

B) the adverse selection problem.

Holding everything else constant A) if wealth increases, demand for asset A increases and demand for alternative assets decreases. B) the more liquid is asset A, relative to alternative assets, the greater will be the demand for asset A. C) the lower the expected return to asset A relative to alternative assets, the greater will be the demand for asset A. D) if asset A's risk rises relative to that of alternative assets, the demand will increase for asset A.

B) the more liquid is asset A, relative to alternative assets, the greater will be the demand for asset A.

Prices of money market instruments undergo the least price fluctuations because of A) the price ceiling imposed by government regulators. B) the short terms to maturity for the securities. C) the lack of competition in the market. D) the heavy regulations in the industry.

B) the short terms to maturity for the securities.

How do checkable deposits differ from demand deposits? A. Only checkable deposits can be utilized as a medium of exchange. B. Demand deposits are those transactions accounts against which an unlimited number of checks can ordinarily be written. Checkable deposits often carry restrictions on transferability. C. Only demand deposits can be utilized as a medium of exchange. D. Demand deposits are those transactions accounts against which a limited number of checks can ordinarily be written. Checkable deposits carry no restrictions on transferability.

B. Demand deposits are those transactions accounts against which an unlimited number of checks can ordinarily be written. Checkable deposits often carry restrictions on transferability.

What is the difference between a mortgage and a ​mortgage-backed security​? A. Mortgages are usually used to create a​ portfolio, whereas​ mortgage-backed securities are held separately. B. Mortgages are​ loans, whereas​ mortgage-backed securities are​ bond-like debt instruments. C. Mortgages are provided to households or​ firms, whereas​ mortgage-backed securities are provided mainly to financial institutions. D. No interest is paid on​ mortgage-backed securities, whereas interest and principal payments are paid on mortgages.

B. Mortgages are​ loans, whereas​ mortgage-backed securities are​ bond-like debt instruments.

Why would a life insurance company be concerned about the financial stability of major corporations or the health of the housing​ market? A. When there are negative changes in financial or housing​ markets, people have no money for life insurance payments. B. Most life insurance companies hold large amounts of corporate bonds and mortgage assets. C. During financial crises and​ recessions, the number of deaths is much higher than usual and payments of insurance indemnity increase significantly. D. Today life insurance companies are the largest holders of corporate stocks and​ mortgage-backed securities.

B. Most life insurance companies hold large amounts of corporate bonds and mortgage assets.

Which of the following is a disadvantage of using fiat money? A. Fiat money is not easily divisible or suitable for small purchases B. Public authorities may be tempted to produce too much of it C. Fiat money is not portable or widely accepted

B. Public authorities may be tempted to produce too much of it

Which of the following forms of payment is least efficient because it generates the highest transactions​ costs? A. fiat money B. commodity money C. electronic payment D. checks

B. commodity money

Financial intermediaries have a role to play in matching savers and borrowers for all of the following reasons except​: A. minimising transaction costs B. information symmetries C. risk sharing D. economies of scale

B. information symmetries

Foreign bonds

Bonds sold in a foreign country and denominated in that​ country's currency.

Which of the following are TRUE concerning the distinction between interest rates and returns? A) The rate of return will be greater than the interest rate when the price of the bond falls during the holding period. B) The return can be expressed as the sum of the discount yield and the rate of capital gains. C) The rate of return on a bond will not necessarily equal the interest rate on that bond. D) The return can be expressed as the difference between the current yield and the rate of capital gains

C) The rate of return on a bond will not necessarily equal the interest rate on that bond.

Which of the following can be described as involving indirect finance? A) You purchase shares in an initial public offering by a corporation in the primary market. B) You make a loan to your neighbor. C) You buy shares in a mutual fund. D) You buy a U.S. Treasury bill from the U.S. Treasury at Treasury Direct.gov.

C) You buy shares in a mutual fund.

In the figure above, a factor that could cause the demand for bonds to decrease (shift to the left) is A) a reduction in the riskiness of bonds relative to other assets. B) an increase in the expected return on bonds relative to other assets. C) a decrease in the expected return on bonds relative to other assets. D) an increase in wealth.

C) a decrease in the expected return on bonds relative to other assets.

The risk that interest payments will not be made, or that the face value of a bond is not repaid when a bond matures is A) liquidity risk. B) inflation risk. C) default risk. D) interest rate risk.

C) default risk.

An increase in default risk on corporate bonds ________ the demand for these bonds, but ________ the demand for default-free bonds, everything else held constant. A) moderately lowers; does not change B) does not change; greatly increases C) lowers; increases D) increases; lowers

C) lowers; increases

The recession caused by the global financial crisis was severe, but much smaller in magnitude than the Great Depression. because A) the larger world population. B) modern technological inventions makes sustaining a crisis difficult. C) of massive intervention by governments to prop up financial markets. D) the Federal Reserve stayed out of the way during the most recent crisis.

C) of massive intervention by governments to prop up financial markets.

When the ________ interest rate is low, there are greater incentives to ________ and fewer incentives to ________. A) real; lend; borrow B) market; lend; borrow C) real; borrow; lend D) nominal; lend; borrow

C) real; borrow; lend

Because it is a unit of account, money A) does not earn interest. B) increases transaction costs. C) reduces the number of prices that need to be calculated. D) discourages specialization.

C) reduces the number of prices that need to be calculated.

A financial market in which previously issued securities can be resold is called a ________ market. A) used securities B) primary C) secondary D) tertiary

C) secondary

The interest rate on Treasury Inflation Indexed Securities can be roughly interpreted as A) the nominal interest rate. B) the rate of deflation. C) the real interest rate. D) the rate of inflation.

C) the real interest rate.

Differences in ________ explain why interest rates on Treasury securities are not all the same. A) liquidity B) risk C) time to maturity D) tax characteristics

C) time to maturity

How do conflicts of interest make the asymmetric information problem​ worse? A. Conflicts of interest tend to lead financial institutions to lend money to the most risky​ borrowers, deepening the asymmetric information problem. B. Conflicts of interest create an adverse selection​ problem, which prevents financial markets from channeling funds into the most productive investment opportunities. C. Competing interests may lead a financial institution to conceal information or disseminate misleading​ information, which prevents financial markets from channeling funds into the most productive investment opportunities. D. Competing interests may limit a financial​ institution's economies of​ scope, which lowers overall economy efficiency and profits.

C. Competing interests may lead a financial institution to conceal information or disseminate misleading​ information, which prevents financial markets from channeling funds into the most productive investment opportunities.

Comptroller of the Currency

Charters and examines the books of federally chartered commercial banks and imposes restrictions on assets they can hold.

Properly categorize each of the following​ concepts: Concept Variable Type Debt Money Income Savings deposits Wealth

Concept Variable Type Debt Stock variable Money Stock variable Income Flow variable Savings deposits Stock variable Wealth Stock variable

f the nominal rate of interest is 2 percent, and the expected inflation rate is -10 percent, the real rate of interest is A) 2 percent. B) 8 percent. C) 10 percent. D) 12 percent.

D) 12 percent.

The ________ states that the nominal interest rate equals the real interest rate plus the expected rate of inflation. A) Monetarist equation B) Marshall equation C) Keynesian equation D) Fisher equation

D) Fisher equation

If an individual moves money from a money market deposit account to currency A) M1 increases and M2 decreases. B) M1 stays the same and M2 stays the same. C) M1 stays the same and M2 increases. D) M1 increases and M2 stays the same

D) M1 increases and M2 stays the same.

If uncertainty about banks' health causes depositors to begin to withdraw their funds from banks, the country experiences a(n) A) financial recovery. B) reduction of the adverse selection and moral hazard problems. C) increase in information available to investors. D) banking crisis.

D) banking crisis.

When financial institutions go on a lending spree and expand their lending at a rapid pace they are participating in a A) market race. B) credit bust. C) deleveraging. D) credit boom.

D) credit boom.

The ________ of the term structure of interest rates states that the interest rate on a long-term bond will equal the average of short-term interest rates that individuals expect to occur over the life of the long-term bond, and investors have no preference for short-term bonds relative to long-term bonds. A) liquidity premium theory B) separable markets theory C) segmented markets theory D) expectations theory

D) expectations theory

Because of the adverse selection problem A) lenders will write debt contracts that restrict certain activities of borrowers. B) good credit risks are more likely to seek loans causing lenders to make a disproportionate amount of loans to good credit risks. C) lenders may refuse loans to individuals with high net worth, because of their greater proclivity to "skip town." D) lenders are reluctant to make loans that are not secured by collateral.

D) lenders are reluctant to make loans that are not secured by collateral.

For restrictive covenants to help reduce the moral hazard problem, they must be ________ by the lender. A) easily changed B) impossible to remove C) written in all capitals D) monitored and enforced

D) monitored and enforced

When I purchase ________, I own a portion of a firm and have the right to vote on issues important to the firm and to elect its directors. A) bonds B) notes C) bills D) stock

D) stock

People in the United States in the nineteenth century were sometimes willing to be paid by cheque rather than with​ gold, even though they knew that there was a possibility that the cheque might bounce. Which of the following would represent an advantage of gold over cheques as a form of​ money? A. Gold is easy to transfer from one city to another or one state to another B. Gold is easy for an individual to carry from place to place C. Gold is easily divisible and may be used for small expenditures D. Gold has intrinsic value when compared to cheques

D. Gold has intrinsic value when compared to cheques

Which of the following is not a characteristic of an effective commodity​ money? A. It must be divisible. B. It must be standardized. C. It must be widely accepted. D. It should be able to be easily reproduced by everyone in the economy.

D. It should be able to be easily reproduced by everyone in the economy.

In​ prison, cigarettes are sometimes used among inmates as a form of payment. All of the following explain how cigarettes solve the​ "double coincidence of​ wants" problem, even if a prisoner does not​ smoke, except​: A. prisoners can exchange cigarettes for other goods and services. B. cigarettes serve as a medium of exchange. C. cigarettes are widely accepted as a form of payment in prison. D. exchanging cigarettes for other goods and services increases transaction costs.

D. exchanging cigarettes for other goods and services increases transaction costs.

Federal Reserve

Examines the books of commercial banks that are members of the Federal Reserve System and sets reserve requirements for all banks.

Office of Thrift Supervision

Examines the books of savings and loan associations and imposes restrictions on assets they can hold.

Eurocurrency

Foreign currencies deposited in banks outside the home country.

For each of the following​ situations, identify which function of money is emphasized: Brooke accepts money in exchange for performing her daily tasks at her​ office, since she knows she can use that money to buy goods and services.

In this​ case, money is being used as a medium of exchange

For each of the following​ situations, identify which function of money is emphasized: Maria is currently pregnant. She expects her expenditures to increase in the future and decides to increase the balance in her savings account.

In this​ case, money is being used as a store of value

For each of the following​ situations, identify which function of money is emphasized: Tim wants to calculate the relative value of oranges and​ apples, and therefore checks the price per pound of each of these goods quoted in currency units.

In this​ case, money is being used as a unit of account

Adverse selection

Occurs when the potential borrowers who are the most likely to produce an undesirable​ (adverse) outcome — the bad credit risks — are the ones who most actively seek out a loan and are thus most likely to be selected

FDIC

Provides insurance of at​ $250,000 for each depositor at a​ bank, examines the books of insured​ banks, and imposes restrictions on assets they can hold.

SEC

Requires disclosure of information of financial instruments traded in organized exchanges.

The U.S. government finances its deficit spending through the use of securities known as Treasuries. Each type of security has a unique name based on its maturity. Given the following terms to​ maturity, identify the appropriate Treasury​ instrument: Short-term (1,​ 3, or 6​ months) ​Intermediate-term (2,​ 5, or 10​ years) ​Long-term (10+​ years)

Short-term (1,​ 3, or 6​ months):Treasury bills ​Intermediate-term (2,​ 5, or 10​ years): Treasury notes ​Long-term (10+​ years): Treasury bonds

Savings and Loan

These depository institutions obtain funds primarily through savings deposits​ (often called​ shares) and time and checkable deposits. In the​ past, these institutions were constrained in their activities and mostly made mortgage loans for residential housing.

Credit Union

These financial institutions are very small cooperative lending institutions organized around a particular​ group: union​ members, employees of a​ firm, and so forth. They acquire funds from deposits called shares and primarily make consumer loans.

Mutual Fund

These financial intermediaries acquire funds by selling shares to many individuals and use the proceeds to purchase diversified portfolios of stocks and bonds.

Commercial Bank

These financial intermediaries raise funds primarily by issuing checkable​ deposits, savings​ deposits, and time deposits. They then use these funds to make​ commercial, consumer, and mortgage loans and to buy U.S. government securities and municipal bonds.

Eurodollars

US dollars deposited in foreign banks outside the United States or in foreign branches of US banks.

________ is the total collection of pieces of property that serves to store value.

Wealth

Capital

is wealth that is used to produce more wealth