Chapter 14 HW
The Federal Reserve uses two definitions of the money supply, M1 and M2, because
M1 is a narrow definition focusing more on liquidity, whereas M2 is a broader definition of the money supply.
Suppose you decide to withdraw $100 in currency from your checking account. What is the effect on M1? Ignore any actions the bank may take as a result of your having withdrawn the $100.
M1 remains unchanged.
Suppose you withdraw $1,000 from a money market mutual fund and deposit the funds in your bank checking account. How will this action affect M1 and M2?
M2 will not be affected, but M1 will increase.
Which of the following is included in M2 but not M1?
Money market deposit accounts in banks
Excess reserves
are reserves banks keep above the legal requirement.
Reserve requirements are changed infrequently because
banks set long-term policy decisions, loan decisions, and deposit decisions based on the reserve requirement.
To increase the money supply, the FOMC directs the trading desk, located at the Federal Reserve Bank of New York, to
buy U.S. Treasury securities from the public
A central bank can "create money" by buying bonds because
by increasing the banks' reserves, banks can make loans which increase checking account balances, and these are part of the money supply.
Congress passed legislation to create the Federal Reserve System in 1913 in order to
end the instability created by bank panics by acting as a lender of last resort.
The U.S. dollar can best be described as
fiat money.
Which of the following policy tools is the Federal Reserve least likely to use in order to actively change the money supply?
reserve requirements
The average number of times each dollar in the money supply is used to purchase goods and services is called
the velocity of money.
Governments sometimes allow hyperinflation to occur because
when governments want to spend more than they collect in taxes, central banks increase the money supply at a rate higher than GDP growth, often resulting in hyperinflation.
If the required reserve ratio is 0.10, the maximum increase in checking account deposits that will result from an increase in bank reserves of $10,000 is
$100,000 10,000/ .10 = 100,000
Suppose you deposit $1,300 cash into your checking account. By how much will the total money supply increase as a result when the required reserve ratio is 0.10? The change in the money supply is:
$11,700 1,300/.10 = 13,000 13,000-1,300 = 11,700
Suppose the required reserve ratio is 13% and a bank has the following balance sheet: Assests: Reserves $2100 Loans $8400 Liabilities: Deposits $10500 This bank keeps required reserves of _______ and excess reserves of _________
$1365, $735 10,500*.13 = 1365 2100 - 1365 = 735
Commodity money
A good used as money that also has value independent of its use as money
In a fractional reserve banking system, what is the difference between a "bank run" and a "bank panic?"
A bank run involves one bank; a bank panic involves many banks.
Fractional reserve banking system
A banking system in which banks keep less than 100% of deposits as reserves
The economic definition of money is:
Any asset that people are generally willing to accept in exchange for goods and services.
Which of the following is not a policy tool the Federal Reserve uses to manage the money supply?
Changing Income tax rates.
Do you agree or disagree with the following statement? "I recently read that more than half of the money issued by the government is actually held by people in foreign countries. If that's true, then the United States is less than half as wealthy as the government statistics indicate."
Disagree. Money is currency plus checking deposits. Wealth is the value of assets minus debts.
Which of the following best explains the difference between commodity money and fiat money?
Fiat money has no value except as money, whereas commodity money has value independent of its use as money.
A newspaper article contains the statement: "Income is only one way of measuring wealth." Do you agree that income is a way of measuring wealth?
Income is yearly earnings and it doesn't measure wealth which is the value of personal assets less all debts.
Which of the following is true with respect to hyperinflation?
It can be hundreds—even thousands—of percentage points per year. It is caused by central banks increasing the money supply at a rate much greater than the growth rate of real GDP In the presence of hyperinflation, firms and households avoid holding money. All of the Above ^^
In the late 1940s, the Communists under Mao Zedong were defeating the government of China in a civil war. The paper currency issued by the Chinese government was losing much of its value, and most businesses refused to accept it. At the same time, there was a paper shortage in Japan. During these years, Japan was still under military occupation by the United States. Some U.S. troops in Japan realized that they could use dollars to buy up vast amounts of paper currency in China, ship it to Japan to be recycled into paper, and make a substantial profit. Under these circumstances, was the Chinese paper currency a commodity money or a fiat money?
It is a commodity money because it has value as recycled paper.
In 2008, the required reserve ratio for a bank's first $9.3 million in checking account deposits was zero. It was 3 percent on deposits between $9.3 million and $43.9 million, and 10 percent on deposits above $43.9 million. In most cases, and for simplicity, we assume that the required reserve ratio is 10 percent on all deposits. Therefore, the simple deposit multiplier is 10 Is the real-world deposit multiplier greater than, less than, or equal to the simple deposit multiplier?
Less. The simple deposit multiplier is a model with assumptions that keep it higher than the real-world multiplier.
Fiat money
Money, such as paper currency, that is authorized by a central bank or governmental body and that does not have to be exchanged by the central bank for gold or some other commodity money
Which one of the following is not one of the policy tools the Fed uses to control the money supply?
Moral suasion.
The formula for the simple deposit multiplier is
Simple Deposit Multiplier = 1/RR
Which tool is the most important?
The Fed conducts monetary policy principally through open market operations.
Based on the quantity theory of money, if velocity is constant, inflation is likely to occur when:
The money supply grows at a faster rate than real GDP.
When the Federal Reserve decreases the discount rate,
The money supply will increase.
M1
The narrowest definition of the money supply: The sum of currency in circulation, checking account deposits in banks, and holdings of traveler's checks
In a newspaper column, author Delia Ephron described a conversation with a friend who had a large balance on her credit card on which the friend was being charged an interest rate of 18 percent per year. The friend was worried about ever being able to pay off the debt. Ephron was earning only 0.4 percent interest on her bank certificate of deposit (CD). She considered withdrawing the money from her CD and using it to make a loan to her friend so her friend could pay off her credit card balance: "So I was thinking that all of us earning 0.4 percent could instead loan money to our friends at 0.5 percent. ... [M]y friend would get out of debt [and] I would earn $5 a month instead of $4." Why don't more people use their savings to make loans rather than keeping the funds in bank accounts that earn very low rates of interest?
There is a risk that the borrower won't pay the money back.
How do the banks "create money"?
When there is an increase in checking account deposits, banks gain reserves and make new loans, and the money supply expands
Suppose you decide to withdraw $100 in cash from your checking account. Which one of the following choices accurately shows the effect of this transaction on your bank's balance sheet.
Your bank's balance sheet shows a decrease in reserves by $100 and a decrease in deposits by $100.
In the securitization process,
banks grant loans to households and bundle the loans into securities that are then sold to investors.
The most important role of the Federal Reserve in today's U.S. economy is
controlling the money supply to pursue economic objectives.
Evidence shows that the quantity equation is correct over the long run, which implies that the
growth rate of the money supply determines the rate of inflation.
Very high rates of inflation are called
hyperinflation.
Credit cards are
included in neither the M1 definition of the money supply nor in the M2 definition.
According to the quantity theory of money, if velocity does not change, when the money supply of a country increases, what will occur?
nominal GDP will increase
A baseball fan with a Mike Trout baseball card wants to trade it for a Giancarlo Stanton baseball card, but everyone the fan knows who has a Stanton card doesn't want a Trout card. Economists characterize this problem as a failure of the
principle of a double coincidence of wants.
A double coincidence of wants refers to
the fact that for a barter trade to take place between two people, each person must want what the other one has
Suppose American Bank has $500 in deposits and $200 in reserves and that the required reserve ratio is 10 percent. In this situation, American Bank has
$50 in required reserves.
There are ________ members of the Board of Governors, who the President of the United States appoints to ________. One of the Board members is appointed Chairman for ________.
7; 14-year nonrenewable terms; a 4-year renewable term
A columnist in the New York Times noted, "Normally when we say that a central bank like the Federal Reserve or European Central Bank creates money from thin air, it does so by buying up bonds." Does the government create money by printing currency?
Yes, but banks create the majority of the money supply by making loans.
By raising the discount rate, the Fed leads banks to make _________ loans to households and firms, which will _________ checking account deposits and the money supply.
fewer; decrease
