Question ECO 029 “Money, Banking, and Financial Markets”

ECO 029 “Money, Banking, and Financial Markets”

Final Exam

Spring 2013

Chapter 2

1) An important financial institution that assists in the initial sale of securities in the primary market is

the

A) investment bank.

B) commercial bank.

C) stock exchange.

D) brokerage house.

2) If you expect the inflation rate to be 15 percent next year and a one-year bond has a yield to maturity

of 7 percent, then the real interest rate on this bond is

A) 7 percent.

B) 22 percent.

C) -15 percent.

D) -8 percent.

3) If the amount payable in two years is $2420 for a simple loan at 5 percent annual interest, the loan

amount, rounded to the nearest dollar, is

A) $1000.

B) $1210.

C) $2000.

D) $2195.

Chapter 4

4) To claim that a lottery winner who is to receive $1 million per year for twenty years has won $20

million ignores the process of

A) face value.

B) par value.

C) deflation.

D) discounting the future.

5) With an interest rate of 6 percent, the present value of $100 next year is approximately

A) $106.

B) $100.

C) $94.

D) $92.

6) To pay for college, you have just taken out a $1,000 government loan that makes you pay $126 per

year for 25 years. However, you don’t have to start making these payments until you graduate from

college four years from now. Why is the yield to maturity necessarily less than 12% (this is the yield to

maturity on a normal $1,000 fixed-payment loan in which you pay $126 per year for 25 years)?

A). This is the case because the first payment due begins at a future date.

B). This is the case because market interest rates are less than 12%.

C). This is the case because of the known effects of inflation.

D). This is the case because the loan has a government guarantee.

7) Which of the following $1,000 face-value securities has the lowest yield to maturity?

A) A 5 percent coupon bond selling for $1,000

B) A 10 percent coupon bond selling for $1,000

C) A 15 percent coupon bond selling for $1,000

D) A 1 percent coupon bond selling for $900

Chapter 5

8) You would be more willing to buy Apple bonds (holding everything else constant) if

A) the brokerage commissions on bond sales become cheaper.

B) interest rates are expected to rise in the future.

C) your wealth has decreased.

D) you expect diamonds to appreciate in value.

9) If wealth increases, the demand for stocks ________ and that of long-term bonds ________,

everything else held constant.

A) increases; increases

B) increases; decreases

C) decreases; decreases

D) decreases; increases

10) In the figure below, the factor responsible for the decline in the interest rate is

A) a decline the price level.

B) a decline in income.

C) an increase in the money supply.

D) a decline in the expected inflation rate.

Chapter 6

11) In 2013, the government of Greece risked defaulting on its debt due to a severe budget crisis. Using

bond market graphs, determine how default would affect the risk premium between U.S. Treasury debt

and Greek debt with comparable maturity.

A). The risk premium would increase, which corresponds to segment C on the graphs above.

B). The risk premium would not change and therefore would be equal to segment B on the

graphs above.

C). The risk premium would not change and therefore would equal zero.

D). The risk premium would increase, which corresponds to segment B on the graphs above.

12) If the expected path of 1-year interest rates over the next five years is 2 percent, 4 percent, 1

percent, 4 percent, and 3 percent, the expectations theory predicts that the bond with the lowest

interest rate today is the one with a maturity of

A) one year.

B) two years.

C) three years.

D) four years.

Chapter 7

13) After careful analysis, you have determined that a firm’s dividends should grow at 7% on average in

the foreseeable future. The firm’s most recent dividend D0 was $3. What is the current price of this

stock, assuming the required return is 18%?

A) $16.67

B) $27.27

C) $29.18

D) $42.86

14) Consider tight monetary policy and its effects on stock prices via the simplified Gordon growth

model equation. Which of the following accurately describes the effects of tight monetary policy on

stock prices, according to this model?

A). The return on bonds and the required return on an equity investment (ke) would rise, while

the price of stock (Po) would fall.

B). The return on bonds, the required return on an equity investment (ke), and the price of stock

(Po) would all rise.

C). The return on bonds and the required return on an equity investment (ke) would fall, while

the price of stock (Po) would rise.

D). The return on bonds, the required return on an equity investment (ke), and the price of stock

(P0) would all fall.

Chapter 8

15) Since they require moremonitoring of firms, ________ contracts are used lessfrequently than

________ contracts to raise capital.

A) equity; debt

B) debt; loan

C) equity; stock

D) debt; equity

16) The principal-agent problem

A) occurs when managers have more incentive to maximize profits than the stockholdersowners

do.

B) in financial markets helps to explain why equity is a relatively important source of finance for

American business.

C) would not arise if the owners of the firm had complete information about the activities of

the managers.

D) explains why direct finance is more important than indirect finance as a source of business

finance.

17) One way the venture capital firm avoids the free-rider problem is by

A) prohibiting the sale of equity in the firm to anyone except the venture capital firm.

B) prohibiting members from serving on the board of directors.

C) prohibiting the borrowing firm from replacing management.

D) requiring collateral equal to the value of the borrowed funds.

Chapter 3

18) If an individual moves money froma demand deposit account toa small-denomination time deposit

account,

A) M1 stays the same and M2 increases.

B) M1 stays the same and M2 stays the same.

C) M1 decreases and M2 stays the same.

D) M1 increases and M2 stays the same.

19) If there are four goods in a bartereconomy, then one needs to know ________ prices in order to

exchange goods.

A) 4

B) 6

C) 8

D) 2

20) Which of the following is a disadvantage of using fiat money?

A). Fiat money is not portable or widely accepted.

B). Fiat money is not easily divisible or suitable for small purchases.

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

D). There are no disadvantages of using fiat money.

Chapter 13

21) The Federal Open Market Committee usually meets ________ times a year.

A) four

B) six

C) eight

D) twelve

22) How does the Federal Reserve have a high degree of instrument independence?

A). The Federal Reserve is not subject to the influence of Congress.

B). The Federal Reserve can choose any method it wants in order to achieve a given set of

policy objectives.

C). The Federal Reserve is able to set the goals of monetary policy.

D). The Federal Reserve can contract with independent experts to choose the appropriate fiscal

instruments.

Chapter 10

23) Bank capital is NOT listed on the ________ side of the bank’s balance sheet because it represents a

________ of funds.

A) liability; use

B) liability; source

C) asset; use

D) asset; source

24) When a new depositor opens a checking account at the First National Bank, the bank’s assets

________ and its liabilities ________.

A) increase; increase

B) increase; decrease

C) decrease; increase

D) decrease; decrease

Chapter 14

25) Both ________ and ________ are monetary liabilities of the Fed.

A) securities; loans to financial institutions

B) currency in circulation; reserves

C) securities; reserves

D) currency in circulation; loans to financial institutions

26) The sum of the Fed’s monetary liabilities and the U.S. Treasury’s monetary liabilities is called

A) vault cash.

B) currency in circulation.

C) bank reserves.

D) the monetary base.

27) If reserves in the banking system increase by $100, then checkable deposits will increase by $1,000

in the simple model of depositcreation when the required reserve ratio is

A) 10.00

B) 0.10

C) 0.05

D) 0.20

Chapter 15

28) When the Fed wants to raise the federal funds rate after banks have accumulated large amounts of

excess reserves (which is the case right now in 2013), it would

A) decrease the interest rate paid on excess reserves.

B) increase discount rate.

C) increase the required reserve ratio.

D) increase the interest rate paid on excess reserves.

29) Everything else held constant, in the market for reserves, when the federal funds rate is 3%, raising

the discount rate from 4% to 5%

A) raises the federal funds rate.

B) has no effect on the federal funds rate.

C) lowers the federal funds rate.

D) has an indeterminate effect on the federal funds rate.

30) The graph below illustrates how the Fed uses discounting to keep the federal funds rate from rising

far above the federal funds target. It shows a rightward shif

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