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Questions and Answers of Money Banking Financial Markets

What procedures can the Fed use to control the federal funds rate? Why does control of this interest rate imply that the Fed will lose control of nonborrowed reserves?
“If the demand for reserves did not fluctuate, the Fed could pursue both a reserves target and an interest-rate target at the same time.” Is this statement true, false, or uncertain?
Why might macroprudential regulation be more effective in managing asset price bubbles than monetary policy?
What are the key advantages and disadvantages of the monetary strategy used by the Federal Reserve under Alan Greenspan and Ben Bernanke, in which the nominal anchor was implicit rather than explicit?
Go to the St. Louis Federal Reserve FRED database and find data on the personal consumption expenditure price index (PCECTPI), real GDP (GDPC1), an estimate of potential GDP (GDPPOT), and the federal
Using the supply and demand analysis of the market for reserves, indicate what happens to the federal funds rate, borrowed reserves, and nonborrowed reserves, holding everything else constant, under
In early 2016 as the Bank of Japan began to push policy interest rates negative, there was a sharp increase in sales for home in Japan. Why might this be, and what does it mean for the effectiveness
In which economic conditions would a central bank want to use a “forward-guidance” strategy? Based on your previous answer, can we easily measure the effects of such a strategy?
During the holiday season, when the public’s holdings of currency increase, what defensive open market operations typically occur? Why?
If reserves in the banking system increase by $1 billion because the Fed lends $1 billion to financial institutions, and checkable deposits increase by $9 billion, why isn’t the banking system in
Using T-accounts, show what happens to checkable deposits in the banking system when the Fed lends $1 million to the First National Bank.
If the Fed sells $2 million of bonds to Irving the Investor, who pays for the bonds with a briefcase filled with currency, what happens to reserves and the monetary base? Use T-accounts to explain
If lending rates that banks can charge increase, all else equal what effect, if at all, will this have on the money multiplier?
If credit risk in the banking system increases, all else equal what effect, if at all, will this have on the money multiplier?
“The Fed can perfectly control the amount of borrowed reserves in the banking system” Is this statement true, false, or uncertain?
The Fed promotes secrecy by not releasing the minutes of FOMC meetings to Congress or the public immediately. Discuss the arguments for and against this policy.
“The Federal Reserve System resembles the U.S. Constitution in that it was designed with many checks and balances.” Is this statement true, false, or uncertain? Explain your answer.
Go to the St. Louis Federal Reserve FRED database and find data on the unemployment rate in the following states: Kentucky (KYUR), North Dakota (NDUR), Alaska (AKUR), New York (NYUR), Alabama (ALUR),
Why were consumer protection provisions included in the Dodd-Frank bill, a bill designed to strengthen the financial system? What are some of the problems with these regulations?
What role did the shadow banking system play in the 2007–2009 financial crisis?
True, false, or uncertain: Deposit insurance always and everywhere prevents financial crises.
Provide one argument in favor of and one against the idea that the Fed was responsible for the housing price bubble of the mid 2000s.
Describe the process of “securitization” in your own words. Was this process solely responsible for the Great Recession financial crisis of 2007–2009?
Some countries do not advertise that a system of deposit insurance like the FDIC in the United States exists in their banking system. Explain why some countries would want to do that.
Define “financial frictions” in your own terms and explain why an increase in financial frictions is a key element in financial crises.
Why is there only two U.S. bank among the ten largest banks in the world?
If the bank at which you keep your checking account is owned by foreigners, should you worry that your deposits are less safe than if the bank were owned by Americans?
Given the role of the loan originator in the securitization process of a mortgage loan described in the text, do you think the loan originator will be worried about the ability of a household to meet
In light of the recent financial crisis of 2007–2009, do you think that the firewall created by the Glass-Steagall Act of 1933 between commercial banking and the securities industry proved to be a
Do you think that before the National Bank Act of 1863 the prevailing conditions in the banking industry fostered or hindered trade across states in the United States?
Oldhat Financial starts its first day of operations with $9 million in capital. A total of $130 million in checkable deposits is received. The bank makes a $25 million commercial loan and another $50
Consider a bank with the following balance sheet:AssetsLiabilitiesRequired reserves$17 millionCheckable deposits$205 millionExcess reserves$3 millionBank capital$10 millionMunicipal bonds$65
In what way might consumer protection regulations negatively affect a financial intermediary’s profits? Can you think of a positive effect of such regulations on profits?
Explain the main difference between a bond and a common stock.
Explain the link between well-performing financial markets and economic growth. Name one channel through which financial markets might affect economic growth and poverty.
Can you think of a reason why people in general do not lend money to one another to buy a house or a car? How would your answer explain the existence of banks?
Can you date the latest financial crisis in the United States or in Europe? Are there reasons to think that these crises might have been related? Why?
Give at least three examples of a situation in which financial markets allow consumers to better time their purchases.
Suppose that Toyota sells yen-denominated bonds in Tokyo. Is this debt instrument considered a Eurobond? How would your answer change if the bond were sold in New York?
If there were no asymmetry in the information that a borrower and a lender had, could a moral hazard problem still exist?
Financial regulation is similar, but not exactly the same, in industrialized countries. Discuss why it might be desirable—or undesirable—to have the same financial regulation across
For each of the following assets, indicate which of the monetary aggregates (M1 and M2) includes them: a. Currencyb. Money market mutual fundsc. Small-denomination time depositsd. Checkable
Explain which information you would need to take into consideration when deciding to receive $5,000 today or $5,500 one year from today.
Suppose today you buy a coupon bond that you plan to sell one year later. Which part of the rate of return formulation incorporates future changes into the bond?
Calculate the present value of a $1,000 discount bond with five years to maturity if the yield to maturity is 6%
Suppose that a commercial bank wants to buy Treasury bills. These instruments pay $5,000 in one year and are currently selling for $5,012. What is the yield to maturity of these bonds? Is this a
Consider a coupon bond that has a $1,000 par value and a coupon rate of 10%. The bond is currently selling for $1,044.89 and has two years to maturity. What is the bond’s yield to maturity?
Suppose that you want to take out a loan and that your local bank wants to charge you an annual real interest rate equal to 3%. Assuming that the annualized expected rate of inflation over the life
Raphael observes that at the current level of interest rates there is an excess supply of bonds and therefore he anticipates an increase in the price of bonds. Is Raphael correct?
Suppose Maria prefers to buy a bond with a 7% expected return and 2% standard deviation of its expected return, while Jennifer prefers to buy a bond with a 4% expected return and 1% standard
What will happen in the bond market if the government imposes a limit on the amount of daily transactions? Which characteristic of an asset would be affected?
Suppose that many big corporations decide not to issue bonds, since it is now too costly to comply with new financial market regulations. Can you describe the expected effect on interest rates?
Suppose that people in France decide to permanently increase their savings rate. Predict what will happen to the French bond market in the future. Can France expect higher or lower domestic interest
Suppose you are in charge of the financial department of your company and you have to decide whether to borrow short or long term. Checking the news, you realize that the government is about to
Using both the supply and demand for bonds and liquidity preference frameworks, show how interest rates are affected when the riskiness of bonds rises. Are the results the same in the two frameworks?
The demand curve and supply curve for one-year discount bonds with a face value of $1,000 are represented by the following equationsBd: Price = − 0.6* Quantity + 1140Bs: Price = Quantity +
Do you think that a U.S. Treasury bill will have a risk premium that is higher than, lower than, or the same as that of a similar security (in terms of maturity and liquidity) issued by the
Just before the collapse of the subprime mortgage market in 2007, the most important credit-rating agencies rated mortgage-backed securities with Aaa and AAA ratings. Explain how it was possible that
Predict what would happen to the risk premiums of municipal bonds if the federal government guarantees today that it will pay creditors if municipal governments default on their payments. Do you
Suppose that you are asked to forecast future stock prices of ABC Corporation, so you proceed to collect all available information. The day you announce your forecast, competitors of ABC Corporation
“Anytime it is snowing when Joe Commuter gets up in the morning, he misjudges how long it will take him to drive to work. When it is not snowing, his expectations of the driving time are perfectly
If Suppose that you decide to play a game. You buy stock by throwing a dice a few times, using that method to select which stock to buy. After ten months you calculate the return on your investment
Suppose that increases in the money supply lead to a rise in stock prices. Does this mean that when you see that the money supply has sharply increased in the past week, you should go out and buy
Suppose that in every last week of November stock prices go up by an average of 3%. Would this constitute evidence in favor of or against the efficient market hypothesis?
Assume that the efficient market hypothesis holds. Marcos has been recently hired by a brokerage firm and claims that he now has access to the best market information. However, he is the “new
Suppose that you work as a forecaster of future monthly inflation rates and that your last six forecasts have been off by minus 1%. Is it likely that your expectations are optimal?
Explain why dating can be considered a method to solve the adverse selection problem.
Suppose you are applying for a mortgage loan. The loan officer tells you that if you get the loan, the bank will keep the house title until you pay back the loan. Which problem of asymmetric
Suppose you have data about two groups of countries, one with efficient legal systems and the other with slow, costly, and inefficient legal systems. Which group of countries would you expect to
Suppose that in a given bond market, there is currently no information that can help potential bond buyers to distinguish between bonds. Which bond issuers have an incentive to disclose information
Which problem of asymmetric information are prospective employers trying to solve when they ask applicants to go through a job interview. Is that the end of the information asymmetry?
If no decent lending opportunity arises in the economy, and the central bank pays an interest rate on reserves that is similar to other low-risk investments, do you think banks will be willing to
After July 2010, bank customers using a debit card had to specifically opt-in to the bank’s overdraft protection plan. Explain the effect of this regulation on a bank’s noninterest income.
Angus Bank holds no excess reserves but complies with the reserve requirement. The required reserves ratio is 9%, and reserves are currently $27 million. Determine the amount of deposits, the reserve
Excess reserves act as insurance against deposit outflows. Suppose that on a yearly basis Malcom Bank holds $12 million in excess reserves and $88 million in required reserves. Suppose that Malcom
Victory Bank reports an EM of 25, while Batovi Bank reports an EM equal to 14. Which bank is better prepared to respond against large losses on loans?
Suppose that you have $300,000 in deposits at a bank. After careful consideration, the FDIC decides that this bank is now insolvent. Which method would you like to see the FDIC apply? What if your
Would you recommend the adoption of a system of deposit insurance, like the FDIC in the United States, in a country with weak institutions, prevalent corruption, and ineffective regulation of the
Suppose that after a few mergers and acquisitions, only one bank holds 70% of all deposits in the United States. Would you say that this bank would be considered too big to fail? What does this tell
In which of the following economies do you think the bank lending channel would play a more important role, everything else being equal: a) an economy dominated by large, financially
If the anemic growth experienced in the U.S. economy since the financial crisis primarily reflects slower growth of the labor force and slowing technological innovation, can monetary policy be used
Suppose that the anemic growth in the U.S. economy following the financial crisis of 2007–2009 was a result of “secular stagnation.” Use the Fisher equation to explain why raising the central
In Country A suppose that changes in short-term interest rates translate quickly into changes in long-term interest rates, while in Country B long-term interest rates do not respond much to changes
Why might the effective lower bound on nominal interest rates lead policymakers to raise their inflation objective?
When monetary policymakers hit the effective lower bound with their policy rate, they have the option to turn to unconventional tools of monetary policy. How do these unconventional tools work, and
High debt ratios led many countries in recent years to reduce government spending. Suppose the cut in spending started from a point with the economy at long-run equilibrium. How might monetary
Suppose that a government imposes trade barriers that raise the domestic cost of production and lower potential output. What would you expect to happen to inflation and output in the short run and
You are asked to advise a central bank of an advanced economy that is about to set an inflation target for the first time. Officials are leaning toward adopting a 2 percent target, in line with the
The economy has been sluggish, so in an effort to increase output in the short run, government officials have decided to cut taxes. They are considering two possible temporary tax cuts of equal size
As a monetary policymaker, would you be more concerned if the aggregate price level were persistently rising by 2 percent or persistently falling by 1 percent? Explain your answer.
For each of the following economies, select the term€”inflation, deflation, or disinflation€”that best describes what the economy is experiencing. March April May Annual
Suppose there were a wave of investor pessimism in the economy. What would the impact be on the dynamic aggregate demand curve?
Explain how a recessionary output gap would emerge in an economy where the long-run aggregate supply curve is persistently shifting to the right.
Plot annually since 1950 the reciprocal of the consumer price index (FRED code: CPIAUCSL) to see how inflation erodes the purchasing power of money. To start with an initial value of 1.0, in the
Why might the ECB place somewhat greater emphasis than the Federal Reserve on money growth rates in discussing monetary policy?
If “inflation is always and everywhere a monetary phenomenon,” why did the huge expansions of central bank money by the Federal Reserve, the ECB, and the Bank of Japan between 2007 and 2015 not
Explain how money growth reduces the purchasing power of money.
According to Irving Fisher, when velocity and output are fixed, the quantity theory of money implies that inflation equals money growth. What does the quantity theory imply for inflation in the long
Does purchasing power parity (PPP) hold in the long run? Does it hold in the short run? Following text equation (3), plot for Japan and the United States beginning in 1972 the percent change from a
In the face of increased short-run synchronization of global stock markets, what strategies could you employ to continue to benefit from international diversification?

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