Practice Test for Final Exam

(Table: Four Countries) Refer to the table. Which of these countries has a trade deficit?

Country C

Which is an example of moral hazard?

Drivers have less incentive to avoid accidents after getting auto insurance.

A person engages in foreign direct investment when he or she buys stocks of a foreign firm. True or False?

False

The Fed's quantitative easing is designed to encourage borrowing by banks. True or False?

False

The interest rate commercial banks charge each on overnight loan is called the:

Federal Funds rate

Decreasing money growth following a negative real shock allows the Fed to address both the higher inflation and higher unemployment that accompany such shocks. True or False?

Flase

The main difference between M1 and M2 is that:

M2 includes some less liquid assets in addition to the assets in M1

According to Milton Friedman, if the economy's long-run growth rate is 3%, then the Fed should set the annual money growth rate at:

3%

An increase in the money supply can typically affect the economy with a lag of ___ months.

6 to 18

Which is an example of quantitative easing by the Federal Reserve?

The Fed purchases $50,000 worth of long-term government bonds

(Figure: Monetary Policy and Demand Shocks) Refer to the figure. In the figure, assume the initial real growth rate of the economy is 3 percent when a negative aggregate demand shock shifts the AD curve from AD 1 to AD 2. As a result of the Fed's policy response, the AD curve shifts to AD 5 in the short run. Which of the following is TRUE about the Fed's policy response?

The Fed responded too much to the shock.

A significant real shock in an economy can result in:

a leftward shift of the LRAS, SRAS, and AD curves.

Disinflation is:

a reduction in the rate of inflation

The Lender of Last Resort characteristic of the Fed:

allows the Fed to lend financial intermediaries during financial crises

A currency union is a bad idea if the economies that compose it require different monetary policies. True or False?

True

An increase in the demand for U.S. goods by foreigners increases the demand for U.S. dollars. True or False?

True

The Fed usually focuses on the Federal Funds rate because it is a convenient signal of monetary policy. True or False?

True

The Fed will be most effective at changing the money supply when:

banks have low reserves and the money multiplier is large

A trade deficit is balanced by a:

capital account surplus

A situation where foreign capital inflow exceeds domestic capital outflow to other nations is called a(n):

capital surplus

A low savings rate in the United States is one possible reason for the U.S.:

current account deficit, capital account surplus, and trade deficit.

A ___ is a system in which the government intervenes extensively in the foreign exchange rate within certain bounds.

dirty float

A relatively loose commitment to a floating exchange rate produces a:

dirty float

A system where a foreign government uses the U.S. dollar as its currency is called:

dollarization

A trade deficit might indicate a problem of:

low saving

All else held constant, an increase in U.S. exports will cause the U.S. current account to:

move in a positive direction

An example of a negative real shock is a rapid increase in:

oil prices

An exchange rate is the cost, or price, of:

one currency in terms of another.

The major tolls that the Fed uses to control the money supply include:

paying interest on reserves held at the Fed and open market operations

The monetary base consists of currency:

plus total reserves held at the Fed.

The reserve ratio (RR) is the:

ratio of reserves to deposits

Which is the LEAST liquid asset?

small-time deposits

A trade ___ occurs when the value of a country's exports exceeds the value of its imports.

surplus

The risk that the failure of a few large financial institutions can affect the entire financial system is called:

systemic risk

The Federal Reserve can influence the economy by shifting:

the AD curve

A problem with a monetary rule that requires the Fed to keep money growth constant is:

the Fed must ignore changes in money velocity

(Figure: Rupee Foreign Exchange Market for U.S. Dollars) Based on the figure, what will a rise in real interest rates in the United States cause?

the demand for dollars to shift to the right

Economist Milton Friedman called for policy rule that keeps the growth rate of the money supply at 3% because:

the economy's long-run potential growth rate is 3%

The Federal Reserve has direct control over:

the monetary base

The members of the Board of Governors of the Federal Reserve have 14-year nonrenewable terms. Thus:

they are somewhat insulated from the political process

A situation in which the value of a country's exports exceeds the value of its imports is called a(n):

trade surplus

To be considered money, an asset must be:

widely accepted as a means of payment

A German automaker builds a factory in the United States. This is considered:

foreign direct investment.

The key difference between quantitative easing and a typical open market purchase is that quantitative easing:

involves long-term government securities and other securities, while a typical open market purchase involves short-term government securities.

A credit in the U.S. current account:

is typically offset by a debit in the capital account.

The Federal Reserve is the:

federal government's bank, central bank, and banker's bank in the United States.

An increase in U.S. government spending tends to:

increase U.S. interest rates and increase the U.S. capital account surplus

An increase in Americans' demand for vehicles made in Europe:

increases the demand for euros, and so the euro appreciates.

An economy in which the central bank overstimulates aggregate demand will suffer from:

inflation

A capital surplus occurs when the value of a country's:

inflow of foreign capital exceeds the outflow of its domestic capital.

To increase the money supply in the economy, the Fed would:

carry out open market purchases and/or decrease the interest rate paid on reserves

Which would typically NOT occur following an increase in the money supply?

decrease in the overall price level

A trade __ occurs when the value of a country's imports exceeds the value of its exports.

deficit

The reserve ratio is the ratio of reserves to:

deposits

A capital deficit occurs when the value of a country's:

domestic capital outflow exceeds the value of its foreign capital inflow

The Federal Reserve acquires its exclusive powers through its ability to:

issue money

Which is NOT a duty performed by the Federal Reserve System?

manage the federal budget deficit

(Figure: Yuan Foreign Exchange Market for U.S. Dollars) Based on this figure, which of the following statements is correct?

Moving up the y-axis, the Chinese yuan depreciates relative to the U.S. dollar.

U.S. currency has the words "Federal Reserve Note" on it True or False?

True

A dirty or managed float is:

a currency whose value is not pegged, but governments will intervene extensively in the market to keep the value within a certain range.

Deflation is:

a decrease in prices, that is, a negative inflation rate

An exchange rate depreciation is:

a decrease in the price of a currency in terms of another currency.

A decrease in the value of the domestic currency in terms of other currencies is called ___ of the domestic currency.

a depreciation

A system in which the exchange rate is determined primarily by market forces is called:

a floating exchange rate.

The money multiplier (MM) is the:

amount that the money supply expands with each dollar increase in reserves

A country currently operating in a recession would benefit most from:

an expansionary in the money supply that leads to a depreciation of the domestic currency.

An appreciation is:

an increase in the price of one currency in terms of another currency.

A potential problem with expansionary monetary policy is that banks can:

be unwilling to lend

A country can adopt a fixed exchange rate system through:

setting up a currency union

(Figure: Pound Foreign Exchange Market for Euros) Use the figure to answer the following question: If the British become wealthier and begin importing more goods from the European Union, which shift would occur in the foreign exchange market for euros?

The demand for euros would shift to the right.

Which would result from open market purchases made by the Fed totaling $50,000?

The money supply would increase by more than $50,000

An increase in the domestic interest rates will lead to an appreciation of the domestic currency. True or False?

True

At the time the Federal Reserve must make a decision, the actual state of the economy may be unknown. True or False?

True

Economists who believe that the Federal Reserve is likely to make a lot of mistakes in the conduct of monetary policy believe that the Federal Reserve should not respond to all AD shocks. True or False?

True

The Fed will lower the interest rate paid on reserves if it wants to increase the money supply. True or False?

True

The Federal Reserve lends money to other banks. True or False?

True

The federal Reserve is one of the most independent agencies in the U.S. government. True or False?

True

The size of the money multiplier is not fixed, but instead depends on how much of their assets banks wish to hold as reserves. True or False?

True

Under fractional reserve banking, banks hold:

only a fraction of deposits in reserve, lending the rest.

The Federal Funds rate is the interest rate charged on a(n):

overnight loan from one bank to another.

"Other investment" takes place in the United States when foreigners:

shift bank deposits into the United States from other countries

(Figure: Monetary Policy and Demand Shocks) Refer to the figure. In the figure, assume the initial real growth rate of the economy is 3 percent when a positive aggregate demand shock shifts the AD curve from AD 1 to AD 4. The correct monetary policy response is to:

reduce money supply growth so that the AD curve shifts back to AD1

Advocates of Fed discretion think that the Fed's adjustments, on average, push the economy in the:

right direction and lower GDP volatility.

According to the purchasing power parity theorem, if a dollar is converted into another currency and spent abroad, then the real purchasing power of the dollar is:

the same at home or abroad

(Figure: Rupee Foreign Exchange Market for U.S. Dollars) Based on the figure, what will a decrease in the money supply by the Federal Reserve cause?

the supply of dollars to shift to the left