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Monetary policy multiple choice

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1.
When you have $1,000 in a savings account at a bank:
A) the bank holds a financial asset of $1,000 and you hold a financial liability of $1,000.
B) the bank holds a financial liability of $1,000 and you hold a financial asset of $1,000.
C) both you and the bank now have a financial asset of $1,000.
D) both you and the bank now have a financial liability of $1,000.

2.
When you withdraw $1,000 from your bank account:
A) the bank's financial assets fall by $1,000 and your financial liabilities rise by $1,000.
B) the bank's financial liabilities fall by $1,000 and your financial assets rise by $1,000.
C) both your and the bank's financial assets rise by $1,000.
D) the bank's financial liabilities and assets fall by $1,000, and you have exchanged one financial asset for another.

3.
The short-term interest rate is determined in the:
A) loanable funds market.
B) stock market.
C) exchange rate market.
D) money market.

4.
The Federal Reserve Bank is the U.S. central bank:
A) whose liabilities serve as cash in the United States.
B) whose assets serve as cash in the United States.
C) who holds, in reserve, all financial assets of banks.
D) who holds, in reserve, all financial liabilities of banks.
5.
The chief difference between the M1 and M2 measures of the money supply is:
A) the supply of M1 exceeds the supply of M2.
B) M2 excludes traveler's checks.
C) M1 is a broader, more comprehensive measure.
D) M2 includes assets with a lower liquidity than those in M1.

6.
Banks hold people's cash for free, and sometimes even pay for the privilege of holding it, because:
A) they are nice.
B) deposits allow banks to make profitable loans.
C) the Federal Reserve requires that they do so.
D) the cash can be deposited at the Federal Reserve Bank to earn interest.

7.
Early medieval bankers were similar to modern bankers in that:
A) they lend a portion of the deposits.
B) they could not create money.
C) deposits were backed by gold.
D) they were not subject to any regulation.

8.
The actual reserve ratio:
A) usually is less than the required reserve ratio.
B) usually is equal to the required reserve ratio.
C) usually is greater than the required reserve ratio.
D) can be greater than or less than the required reserves ratio to deposits depending on the currency to deposit ratio.

9.
A reserve ratio of 0.10 means that a bank can lend an amount equal to:
A) 10 percent of its deposit liabilities.
B) 10 percent of its excess reserves.
C) 90 percent of its deposit liabilities.
D) 90 percent of its excess reserves.

10.
As the reserve ratio goes up, the simple money multiplier goes:
A) up, and more money will be created.
B) down, and less money will be created.
C) up, and less money will be created.
D) down, and more money will be created.

11.
The key to understanding the money creation process is the fact that:
A) whenever banks create financial assets for themselves, they create financial liabilities for individuals, and those financial liabilities are considered money.
B) whenever banks create financial liabilities for themselves, they create financial assets for individuals, and those financial assets are considered money.
C) banks are able to print dollar bills and add these to circulation whenever they extend loans.
D) since the money supply excludes cash but includes checking account deposits, money is created whenever individuals deposit cash into a checking account.

12.
A month ago, you bought a one-year bond with a value of $100 that pays a fixed interest rate of 5 percent per year. The interest rate of the economy was also 5 percent. Today you read in the newspaper that the interest rate in the economy increased to 6 percent. You are holding a bond that is:
A) highly desirable to other investors.
B) less desirable to other investors.
C) not desirable at all.
D) desirable to you.
13.
In the AS/AD model, an expansionary monetary policy has the greatest effect on the price level when it:
A) increases both nominal and real income.
B) increases real income but not nominal income.
C) increases nominal income but not real income.
D) doesn't increase real or nominal income.

14.
In the AS/AD model, a contractionary monetary policy:
A) reduces investment but increases aggregate demand.
B) reduces both investment and aggregate demand.
C) increases both investment and aggregate demand.
D) increases investment but reduces aggregate demand.

15.
The effect of an expansionary monetary policy results in a shift of the aggregate demand to the right. The effect of the monetary policy on the aggregate demand is:
A) direct from the money supply to the aggregate demand.
B) indirect through the short-term and long-term interest rates.
C) direct from the money supply to the aggregate supply.
D) indirect through the government expenditures.

16.
The explicit functions given to the Fed by the Congress include all of the following except:
A) regulating financial institutions.
B) serving as a lender of last resort to financial institutions.
C) providing banking services to the U.S. government.
D) holding the nominal interest rate no more than 2 percent above the real interest rate.

17.
The monetary base includes:
A) currency and coin in circulation plus checkable deposits.
B) currency and coin in circulation only.
C) vault cash plus checkable deposits.
D) currency and cash plus commercial bank deposits at the Fed.

18.
Suppose the reserve requirement is 20% and there are no cash holdings or excess reserves. A $1 billion purchase of government securities by the Fed will:
A) increase the potential amount of checkable deposits in the banking system by $5 billion.
B) increase the potential amount of checkable deposits in the banking system by $1 billion.
C) reduce the potential amount of checkable deposits in the banking system by $1 billion.
D) reduce the potential amount of checkable deposits in the banking system by $5 billion.

19.
When the Fed reduces the discount rate, this sends a signal to banks that the Fed wants:
A) to reduce the reserve requirement.
B) the money supply to contract.
C) the Federal funds rate to increase.
D) the money supply to expand
20.
If the Fed funds rate is below the Fed's target range the Fed should:
A) follow expansionary policy.
B) follow contractionary policy.
C) print money.
D) do nothing.

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Solution Preview

1.
When you have $1,000 in a savings account at a bank:

B) the bank holds a financial liability of $1,000 and you hold a financial asset of $1,000.

The bank is obliged to repay you if you withdraw your $1000 so the bank holds a new liability and you hold a new asset.

2.
When you withdraw $1,000 from your bank account:

D) the bank's financial liabilities and assets fall by $1,000, and you have exchanged one financial asset for another.

3.
The short-term interest rate is determined in the:
A) loanable funds market.

4.
The Federal Reserve Bank is the U.S. central bank:
A) whose liabilities serve as cash in the United States.

5.
The chief difference between the M1 and M2 measures of the money supply is:

D) M2 includes assets with a lower liquidity than those in M1.

M1 includes currency in circulation, checking accounts, travelers checks and other near-cash deposits. M2 includes all these plus less liquid assets, such as personal saving deposits, and non-personal notice deposits at chartered banks.

6.
Banks hold people's cash for ...

Solution Summary

Multiple choice questions pertaining to the AS/AD model, monetary creation, and related concepts.

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Multiple choice/ short answer questions : multiplier model, recession, automatic stabilizers, budget deficit, money, reserve ratio, currency to deposit ratio, Monetary policy, stimulate aggregate demand, expansionary monetary policy, AS/AD model, Countercyclical monetary policy, nominal interest rates, real interest rates, recessionary gap, autonomous expenditures, Crowding out, Automatic stabilizer, Money multiplier, Open market operations, Budget deficit, money supply, tight (restrictive) monetary policy.

1. According to the multiplier model, the best way to reduce inflation is to
a. increase aggregate demand by cutting government spending or raising taxes.
b. increase aggregate demand by raising government spending or cutting taxes.
c. decrease aggregate demand by cutting government spending or raising taxes.
d. decrease aggregate demand by raising government spending or cutting taxes.

2. If the economy goes into a recession, automatic stabilizers will do all of the following except
a. increase income tax revenues.
b. increase the budget deficit.
c. increase unemployment insurance.
d. increase welfare payments.

Refer to the following table as you answer the next question.
Year Surplus or deficit (-)
billions of dollars
1946 -15.9
1947 4.0
1948 11.8
1949 .9
1950 -3.1

3. Which statement is true?
a. The budget deficit in 1950 was $2.3 billion.
b. From 1946 to 1950, the debt was $2.3 billion.
c. From 1945 to 1950, the debt rose by $2.3 billion.
d. In 1950, the debt was $2.3 billion.

4. Money can be many things, but it is not
a. a financial liability.
b. a financial asset.
c. liquid.
d. illiquid.

5. A reserve ratio of 0.10 means that a bank loans out __________ percent of its_______
a. 10; deposit liabilities
b. 10; excess reserves
c. 90; deposit liabilities
d. 90; excess reserves

6. In the real world, the currency to deposit ratio is
a. negative.
b. zero.
c. greater than 0 but less than or equal to 1.
d. greater than 1.

7. Monetary policy affects
a. inflation only.
b. output only.
c. both inflation and output.
d. neither inflation nor output.

8. If the Bank of Canada wanted to stimulate aggregate demand, it could
a. raise the target range for the overnight financing rate, thereby reducing interest rates throughout the economy.
b. raise the target range for the overnight financing rate, thereby increasing interest rates throughout the economy.
c. lower the target range for the overnight financing rate, thereby reducing interest rates throughout the economy.
d. lower the target range for the overnight financing rate, thereby increasing interest rates throughout the economy.

9. Which of the following is an example of an expansionary monetary policy?
a. Raising the bank rate.
b. Raising the overnight financing rate.
c. Selling bonds.
d. Buying bonds.

10. Bank of Canada sales of government bonds ________ bank reserves, and _______ the money supply.
a. increase; increase
b. decrease; decrease
c. decrease; increase
d. increase; decrease

11. In the AS/AD model, an expansionary monetary policy
a. increases aggregate demand by reducing interest rates.
b. increases aggregate demand by raising interest rates.
c. reduces aggregate demand by reducing interest rates.
d. reduces aggregate demand by raising interest rates.

12. Countercyclical monetary policy in the AS/AD model involves
a. contractionary monetary policy throughout the business cycle.
b. expansionary monetary policy throughout the business cycle.
c. contractionary monetary policy during boom periods and expansionary monetary policy during recession.
d. contractionary monetary policy during recession and expansionary monetary policy during boom periods.

13. Which of the following gives the correct relationship between nominal and real interest rates?
a. real interest rate = nominal interest rate + expected inflation rate
b. nominal interest rate = real interest rate + expected inflation rate
c. expected inflation rate = nominal interest rate + real interest rate
d. nominal interest rate = real interest rate ? expected inflation rate

14. Suppose an expansionary monetary policy reduces nominal interest rates. If this is the case, it follows that the expansionary monetary policy must have
a. reduced expected inflation.
b. increased expected inflation.
c. increased expected inflation less than it reduced real interest rates.
d. reduced real interest rates less than it increased expected inflation

15. Suppose the Japanese economy faces a recessionary gap of 120. If mpc is 0.6 and the price level is constant, the government should increase autonomous expenditures
a. by 20
b. by 48
c. by 72
d. by 120

Questions 16 and 17 (Short Answer)
16. Define and briefly explain the significance of each of the following terms.
a. Crowding out
b. Automatic stabilizer
c. Money multiplier
d. Open market operations
e. Budget deficit

17. Explain how the Bank of Canada can influence interest rates and the money supply in Canada. Be specific about the tools that the Bank of Canada has available for these purposes, and describe how these tools would be used in the case of a tight (restrictive) monetary policy.

See attachment for the questions

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