ch4 Questions Finance

1.
The Fed can affect the interaction between the demand for money and the supply of
money to influence interest rates, the aggregate level of spending, and therefore
economic growth.
a. True
b.False
ANSWER: a
DIFFICULTY: Moderate
LEARNING OBJECTIVES: FMAI.MADU.15.05.01
NATIONAL STANDARDS: United States – BUSPROG.FMAI.MADU.15.03
STATE STANDARDS: United States – OH – DISC.FMAI.MADU.15.02
KEYWORDS: Bloom’s: Knowledge
2. The Fed can ____ the level of spending as a means of stimulating the economy by
____ the money supply.
a. increase; decreasing
b.decrease; increasing
c. decrease; decreasing
d.increase; increasing
ANSWER: d
3. A credit crunch occurs when:
a. interest rates decline.

b.interest rates rise.
c. creditors restrict the amount of loans they are willing to provide.
d.the economy is strong.
ANSWER: c
DIFFICULTY: Easy
4. According to the theory of rational expectations, higher inflationary expectations

encourage businesses and households to reduce their demand for loanable funds.
a. True
b.False
ANSWER: b
DIFFICULTY: Easy
KEYWORDS: Bloom’s: Application
5. A passive monetary policy adjusts the money supply automatically in response to

economic conditions.
a. True
b.False
ANSWER: b
DIFFICULTY: Easy
6. If the Fed implemented a policy of inflation targeting, and if the U.S. inflation rate
deviated substantially from the Fed’s target inflation rate, the Fed could lose credibility.
a. True
b.False
ANSWER: a
KEYWORDS: Bloom’s: Comprehension
7. In general, there is:
a. a positive relationship between unemployment and inflation.

b.an inverse relationship between unemployment and inflation.
c. an inverse relationship between GDP and inflation.
d.a positive relationship between GDP and unemployment.
ANSWER: b
8. A ____-money policy can reduce unemployment, and a ____-money policy can reduce
inflation.
a. tight; loose
b.loose; tight
c. tight; tight
d.loose; loose
ANSWER: b
DIFFICULTY: Easy
9. A loose-money policy tends to ____ economic growth and ____ the inflation rate.
a. stimulate; place downward pressure on

b.stimulate; place upward pressure on
c. dampen; place upward pressure on
d.dampen; place downward pressure on
ANSWER: b
10. When both inflation and unemployment are relatively high, there is more
disagreement among FOMC members about the proper monetary policy to implement.
a. True
b.False
ANSWER: a
11. ____ serves as the most direct indicator of economic growth in the United States.
a. Gross domestic product (GDP)

b.National income
c. The unemployment rate
d.The industrial production index
ANSWER: a
DIFFICULTY: Easy
12. Which of the following is not an indicator of inflation?
a. housing price indexes

b.wage rates
c. oil prices
d.consumer confidence surveys
ANSWER: d
DIFFICULTY: Easy
13. The ____ indicators tend to rise or fall after a business cycle.
a. leading
b.lagging
c. coincident
d.none of the above
ANSWER: b
DIFFICULTY: Easy
14. The ____ indicators tend to rise or fall at the same time as a business cycle.
a. leading
b.lagging
c. coincident
d.none of the above
ANSWER: c
DIFFICULTY: Easy
15. The time lag between when an economic problem arises and when it is reported in
economic statistics is the
a. recognition lag.
b.implementation lag.
c. impact lag.
d.open-market lag.
ANSWER: a
DIFFICULTY: Easy
16. The time between when the Fed adjusts the money supply and when the adjustment
has an effect on the economy is the
a. recognition lag.
b.implementation lag.
c. impact lag.
d.open-market lag.
ANSWER: c
DIFFICULTY: Easy
17. If the Fed attempts to reduce inflation, it would likely increase money supply growth.
a. True
b.False
ANSWER: b
18. Which of the following best describes the relationship between the Fed and the
presidential administration?
The Fed must receive approval by the administration before conducting

a.
monetary policy.
The Fed must implement a monetary policy specifically to the support the
b.
administration’s policy.
The administration must receive approval from the Fed before implementing
c.
fiscal policy.
d.A and C
e. none of the above
ANSWER: a
19. A high budget deficit tends to place ____ pressure on interest rates; the Fed’s
tightening of the money supply tends to place ____ pressure on interest rates.
a. upward; upward
b.upward; downward
c. downward; downward
d.downward; upward
ANSWER: a
20. The Fed is usually more willing to maintain a stimulative monetary policy when
inflation is relatively high.
a. True
b.False
ANSWER: b
DIFFICULTY: Easy
21. Costner National, a commercial bank, obtains short-term deposits and makes long-
term fixed-rate loans. It should be adversely affected when the Fed:
a. purchases Treasury securities.

b.maintains a stable money supply.
c. uses a tight-money policy.
d.uses a loose-money policy.
ANSWER: c
22. The ____ lag is the time from when an economic problem arises until it is
recognized.
a. Recognition
b.Adjustment
c. Implementation
d.none of the above
ANSWER: a
DIFFICULTY: Easy
23. A ____ dollar tends to exert inflationary pressure in the United States.
a. Stable
b.Strong
c. Weak
d.both A and B
ANSWER: c
DIFFICULTY: Easy
24. There is some evidence that high money supply growth may lead to _______ U.S.
inflation over time, which in turn places ____ pressure on U.S. interest rates.
a. higher; upward
b.higher; downward
c. lower; downward
d.lower; upward
ANSWER: a
DIFFICULTY: Easy
25. If the Fed uses a passive monetary policy during weak economic conditions,
a. it increases the money supply substantially.

b.it reduces the money supply substantially.
c. it allows the economy to fix itself.
d.it purchases commercial paper and mortgage-backed securities.
ANSWER: c
DIFFICULTY: Easy
26. Which of the following is true about an increase in the U.S. government’s budget
deficit?
It will lead to global crowding out if U.S. interest rates fall below the level of
a.
interest rates in other countries.
It will cause outflows of foreign funds from the United States as foreign
b.
investors move their funds to other countries.
c. It will cause an inward shift in the aggregate demand for funds curve.
d.None of the above
ANSWER: d
DIFFICULTY: Easy
27. Inflation is commonly the result of a
a. large budget deficit.

b.high level of interest rates.
c. high level of unemployment.
d.high level of aggregate demand.
ANSWER: d
DIFFICULTY: Easy
28. According to the theory of rational expectations, if the Fed uses open market
operations to increase the supply of loanable funds, the ultimate effect on interest rates
a. is a reduction in interest rates.

b.is an increase in interest rates.
c. is no effect on interest rates.
d.cannot be determined.
ANSWER: d
29. The Federal Reserve would be most inclined to use a stimulative monetary policy to
cure a recession if oil prices are
a. low and steady

b.low, but rising.
c. very high, but declining slightly.
d.very high and rising.
ANSWER: a
30. Global crowding out is described in the text to mean the impact of
a. excessive U.S. population growth on interest rates.

b.excessive global population growth on interest rates.
c. an excessive budget deficit in one country on interest rates of another country.
d.an excessive budget deficit in one country on exchange rates.
ANSWER: c
31. Which of the following is not an effect of a stimulative monetary policy?
a. The risk-free rate and the credit risk premium increase.

b.A firm’s cost of debt decreases.
c. A firm’s cost of equity decreases.
d.Depository institutions experience an increase in their supply of funds.
ANSWER: a
32. When the Fed uses open market operations to sell some of its Treasury securities,
there will be
a. an outward shift in the supply schedule of loanable funds.

b.an inward shift in the supply schedule of loanable funds.
c. no shift in the supply schedule of loanable funds.
d.an outward shift in the demand schedule for loanable funds.
ANSWER: b
33. Which of the following is not a disadvantage of inflation targeting?
If the U.S. inflation rate deviates substantially from the Fed’s target inflation
a.
rate, the Fed could lose credibility.
The Fed’s focus on inflation could result in a much higher unemployment
b.
level.
The Fed’s focus on inflation could result in much higher interest rates, which
c.
would discourage economic growth.
d.All of the above are disadvantages of inflation targeting.
ANSWER: c
34. Financial institutions such as commercial banks, bond mutual funds, insurance
companies, and pension funds maintain large portfolios of bonds, so their portfolios are
____ affected when the Fed ____ interest rates.
a. unfavorably; decreases
b.unfavorably; increases
c. favorably; increases
d.A and C are correct.
ANSWER: b
35. According to the theory of rational expectations, higher inflationary expectations

encourage businesses and households to reduce their demand for loanable funds.
a. True
b.False
ANSWER: b
36. During the 2008–2015 period, the Fed reduced the federal funds rate to 6 percent in
an effort to stimulate the economy.
a. True
b.False
ANSWER: b
DIFFICULTY: Easy
37. In recent years, the Fed has made an effort to be more transparent in its
communications to financial markets about its future policy.
a. True
b.False
ANSWER: a
38. The Fed faces a trade-off in monetary policy between reducing unemployment and
reducing the federal government’s budget deficit.
a. True
b.False
ANSWER: b
DIFFICULTY: Easy
39. The relationship between the interest rate on loanable funds and the level of
business investment is positive.
a. True
b.False
ANSWER: b
40. The supply schedule of loanable funds indicates the quantity of funds that would be
demanded at various possible interest rates.
a. True
b.False
ANSWER: b
DIFFICULTY: Easy
41. To correct excessive inflation, the Fed could use open market operations by buying
Treasury securities in the secondary market.
a. True
b.False
ANSWER: b
42. When the Fed wants to encourage businesses to increase their spending on long-
term projects, it may use a stimulative policy focused on reducing long-term Treasury
yields.
a. True
b.False
ANSWER: a
DIFFICULTY: Easy
43. Economists who work at the Fed recognize that a stimulative monetary policy will
not always reduce a high unemployment rate and could even ignite inflation.
a. True
b.False
ANSWER: a
DIFFICULTY: Easy
44. An attempt by the Fed to stimulate the economy by reducing short-term interest
rates may have a limited effect if long-term interest rates remain unaffected.
a. True
b.False
ANSWER: a
45. The Fed needs the approval of the presidential administration to make decisions.
a. True
b.False
ANSWER: b
46. The Fed is more likely to use a stimulative policy during a strong-dollar period.
a. True
b.False
ANSWER: a
DIFFICULTY: Easy
47. A purchase of Treasury securities by the Fed leads to a(n) ____ in interest rates and
a(n) ____ in the level of business investment.
a. increase; decrease
b.decrease; decrease
c. increase; increase
d.decrease; increase
ANSWER: d
48. Which of the following is not true with respect to inflation targeting?
The Fed could lose credibility if the inflation rate deviates substantially from
a.
the Fed’s target inflation rate.
b.A focus on inflation could result in a much higher unemployment rate.
Inflation targeting may not only satisfy the inflation goal, but could also
c.
achieve the employment stabilization goal in the long run.
If unemployment is slightly higher than normal, while inflation is at the peak of
d.the target range, an inflation targeting approach would like advocate a loose
monetary policy.
ANSWER: d
49. A ____ economic indicator tends to rise or fall a few months after business-cycle
expansions and contractions.
a. leading
b.coincident
c. lagging
d.none of the above
ANSWER: c
DIFFICULTY: Easy
50. A weak dollar would stimulate ____, discourage ____, and ____ the U.S. economy.
a. U.S. exports; U.S. imports; weaken

b.U.S. exports; U.S. imports; stimulate
c. U.S. imports; U.S. exports; stimulate
d.none of the above
ANSWER: b
51. The interest rate that the Fed targets for its monetary policy is the:
a. commercial paper rate.

b.federal funds rate.
c. Treasury bond coupon rate.
d.one-year certificate of deposit rate.
ANSWER: b
DIFFICULTY: Easy
52. Which of the following might be monitored as an indicator of inflation?
a. consumer price index

b.gold prices
c. oil prices
d.All of the above may be indicators of inflation.
ANSWER: d
DIFFICULTY: Easy
53. The Fed’s monetary policy is commonly intended to alter the supply of funds in the
banking system in order to achieve a specific targeted:
a. discount rate.
b.required reserve requirement.
c. federal funds rate.
d.prime rate.
ANSWER: c
DIFFICULTY: Easy
54. If a firm has a credit risk premium of 3 percent and the Treasury security rate is 4
percent, the firm will be able to borrow at ________. If the Fed implements a monetary
policy that raises the Treasury security rate to 6 percent, the cost of borrowing for the
firm will be ________.
a. 7 percent; 10 percent
b.4 percent; 6 percent
c. 7 percent; 9 percent
d.1 percent; 3 percent
ANSWER: c
55. In the “operation twist” strategy used in 2011 and 2012, the Fed sold _______
Treasury securities and used the proceeds to purchase ________ Treasury securities.
a. long-term; short-term
b.short-term; long-term
c. short-term; long-term
d.long-term; short-term
ANSWER: b
DIFFICULTY: Easy
56. The intent of the Fed’s operation twist strategy in 2011 and 2012 was to:
a. increase long-term interest rates.
b.require corporations to issue more commercial paper.
c. require bond rating agencies to impose higher standards on their ratings.
d.reduce long-term interest rates.
ANSWER: d
DIFFICULTY: Easy
57. Which of the following is not a reason that a stimulative monetary policy may be
ineffective?
The effects of a stimulative policy may be disrupted by expectations of

a.
inflation.
b.Retirees who rely on interest income may restrict their spending
Lending institutions may increase their standards for borrowers, so some
c.
potential borrowers may not qualify for loans.
d.Higher interest rates encourage individuals to increase their savings.
ANSWER: d
58. In 2012, the Fed stated that it would continue to purchase Treasury bonds in the
financial markets until GDP growth increased to a target level.
a. True
b.False
ANSWER: b
59. Which of the following was not true of the eurozone during the Greek crisis?
Fear of a financial crisis throughout Europe discouraged investors and firms

a.
from moving funds into Europe.
By using a more stimulative monetary policy than it desired, the European
b.
Central Bank aroused concerns about potential inflation in the eurozone.
There was concern that the austerity conditions could weaken the country’s
c.
economy further.
Greece, Spain, and Portugal focused their efforts on reducing tax rates in order
d.
to stimulate their economies.
ANSWER: d
60. The Fed’s purchase of Treasury securities is primarily intended to ensure liquidity in
the commercial paper market.
a. True
b.False
ANSWER: b
DIFFICULTY: Easy
LEARNING OBJECTIVES: FMAI MADU 15.05.05
NATIONAL STANDARDS: United States – BUSPROG.FMAI.MADU. 1503
KEYWORDS: Bloom’s Knowledge
61. The Fed’s main focus in the years 2010–2014 following the credit crisis was on
controlling inflation.
a. True
b.False
ANSWER: b
DIFFICULTY: Easy
LEARNING OBJECTIVES: FMAI.MADU 15.05.05
NATIONAL STANDARDS: United States – BUSPROG.FMAI.MADU.1503
KEYWORDS: Bloom’s Knowledge
1. Mortgage-backed securities are commonly contained within collateralized debt

obligations.
a. True
b.False
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
2. Federally insured mortgages guarantee
a. loan repayment to the lending financial institution.

b.that the interest rate will not increase during the life of the mortgage.
the lending financial institution a selling price for the mortgage in the
c.
secondary market.
d.all of the above
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
3. At a given point in time, the interest rate offered on a new fixed-rate mortgage is
typically ____ the initial interest rate offered on a new adjustable-rate mortgage.
a. below
b.above
c. equal to
d.all of the above are very common
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
4. An institution that originates and holds a fixed-rate mortgage is adversely affected by

____ interest rates; the borrower who was provided the mortgage is adversely affected
by ____ interest rates.
a. stable; decreasing
b.increasing; stable
c. increasing; decreasing
d.decreasing; increasing
ANSWER: c
POINTS: 1
DIFFICULTY: Easy
5. Rates for adjustable-rate mortgages are commonly tied to the
a. average prime rate over the previous year.

b.Fed’s discount rate over the previous year.
c. average Treasury bill rate over the previous year.
d.average Treasury bond rate over the previous year.
ANSWER: c
POINTS: 1
DIFFICULTY: Easy
6. Caps on mortgage rate fluctuations with adjustable-rate mortgages (ARMs) are

typically
a. 2 percent per year and 5 percent for the mortgage lifetime.

b.5 percent per year and 15 percent for the mortgage lifetime.
c. 0 percent per year and 10 percent for the mortgage lifetime.
d.3 percent per year and 8 percent for the mortgage lifetime.
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
7. From the perspective of the lending financial institution, interest rate risk is
a. lower on a 30-year fixed-rate mortgage than on a 15-year fixed-rate mortgage.

b.lower on a 15-year fixed-rate mortgage than on a 30-year fixed-rate mortgage.
c. higher on a 15-year fixed-rate mortgage than on a 30-year fixed-rate mortgage.
higher on a 15-year adjustable-rate mortgage than on a 30-year adjustable-rate
d.
mortgage.
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
8. Mortgage companies specialize in
a. purchasing mortgages originated by other financial institutions.

b.investing and maintaining mortgages that they create.
c. originating mortgages and selling those mortgages.
borrowing money through the creation of mortgages that is used to invest in
d.
real estate.
ANSWER: c
POINTS: 1
DIFFICULTY: Easy
9. For any given interest rate, the shorter the life of the mortgage, the ____ the monthly
payment and the ____ the total payments over the life of the mortgage.
a. greater; greater
b.greater; lower
c. lower; greater
d.lower; lower
ANSWER: b
POINTS: 1
10. A financial institution has a higher degree of interest rate risk on a ____ than a ____.
a. 30-year fixed-rate mortgage; 15-year fixed-rate mortgage

b.30-year variable-rate mortgage; 30-year fixed-rate mortgage
c. 15-year fixed-rate mortgage; 30-year fixed-rate mortgage
d.15-year variable-rate mortgage; 15-year fixed-rate mortgage
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
11. A balloon-payment mortgage requires interest payments for a 10- to 20-year period,
at the end of which the borrower must pay the full amount of the principal.
a. True
b.False
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
12. Use an amortization schedule. A 15-year $100,000 mortgage has a fixed mortgage
rate of 9 percent. In the first month, the total mortgage payment is $____, and $____ of
this amount represents payment of interest.
a. 1,014; 264
b.1,241; 750
c. 1,014; 750
d.none of the above
ANSWER: c
POINTS: 1
13. A mortgage that requires interest payments for a three- to five-year period, then full
payment of principal, is a(n)
a. chattel mortgage.
b.balloon-payment mortgage.
c. variable-rate mortgage.
d.open-ended mortgage bond.
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
14. A mortgage with low initial payments that increase over time without ever leveling
off is a
a. graduated payment mortgage.

b.growing-equity mortgage.
c. second mortgage.
d.shared-appreciation mortgage.
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
15. The interest rate on a second mortgage is ____ on a first mortgage created at the
same time, because the second mortgage is ____ the existing first mortgage in priority
claim against the property in the event of default.
a. higher than; behind

b.equal to that; equal to
c. lower than; ahead of
d.higher than; ahead of
e. lower than; behind
ANSWER: a
POINTS: 1
16. Which of the following mortgages allows the home purchaser to obtain a mortgage
at a below-market interest rate throughout the life of the mortgage?
a. second mortgage
b.growing-equity mortgage
c. graduated-payment mortgage
d.shared-appreciation mortgage
ANSWER: d
POINTS: 1
DIFFICULTY: Easy
17. A ____ mortgage allows the borrower to initially make small payments on the
mortgage. The payments then increase over the first 5 to 10 years and then level off.
a. graduated-payment mortgage
c. second mortgage
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
18. Mortgage companies, commercial banks, and savings institutions are the primary
originators of mortgages.
a. True
b.False
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
19. ____ was created in 1968 as a corporation that is wholly owned by the federal
government. It guarantees payment on mortgages that meet specific criteria.
a. Freddie Mac
b.Ginnie Mae
c. Fannie Mae
d.None of the above
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
20. ”Securitization” refers to the private insurance of conventional mortgages.
a. True
b.False
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
21. A financial institution may service a mortgage even after selling it.
a. True
b.False
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
22. The difference between the 30-year mortgage rate and the 30-year Treasury bond
rate is primarily attributable to
a. interest rate risk.

b.reinvestment rate risk.
c. credit risk.
d.insurance risk.
ANSWER: c
POINTS: 1
DIFFICULTY: Easy
23. Which of the following is not a guarantor of federally insured mortgages?
a. Federal Housing Administration (FHA)

b.Veterans Administration (VA)
c. Federal Deposit Insurance Corporation (FDIC)
d.All of the above are guarantors of federally insured mortgages.
ANSWER: c
POINTS: 1
DIFFICULTY: Easy
24. ___ economic growth will probably ____ the risk premium on mortgages and ____ the
price of mortgages.
a. Strong; increase; decrease

b.Strong; increase; increase
c. Weak; decrease; increase
d.Weak; increase; increase
e. Weak; decrease; decrease
ANSWER: c
POINTS: 1
25. A ____ mortgage allows borrowers to initially make small payments on the
mortgage, which are then increased on a graduated basis over the first five to ten years;
payments then level off from there on.
a. balloon-payment
b.graduated-payment
c. shared-appreciation
d.growing-equity
e. none of the above
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
26. An adjustable-rate mortgage increases interest rate risk for the ____, but reduces
interest rate risk for the ____.
a. originator; borrower
b.borrower; originator
c. government; originator
d.none of the above
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
27. When financial institutions originate residential mortgages, the mortgage contract
should not specify
a. whether the mortgage is federally insured.

b.the amount of the loan.
c. whether the interest rate is fixed or adjustable.
d.the maturity.
e. the mortgage contract should specify all of the above
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
28. Which of the following is not a common type of mortgage-backed security
according to your text?
a. participation certificates (PCs)

b.collateralized mortgage obligations (CMOs)
c. balloon-payment mortgage certificates
d.private-label pass-through securities
e. All of the above are common types of mortgage pass-through securities.
ANSWER: c
POINTS: 1
29. ____ risk is the risk that a borrower may prepay the mortgage in response to a
decline in interest rates.
a. Interest rate
b.Credit
c. Prepayment
d.Reinvestment rate
ANSWER: c
POINTS: 1
DIFFICULTY: Easy
30. Mortgage-backed securities are assigned ratings by:
a. rating agencies.
b.the Treasury.
c. the Fed.
d.the mortgage originator.
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
31. In a collateralized mortgage obligation (CMO), mortgages are segmented into ____
(or classes).
a. balloon payments
b.caps
c. tranches
d.strips
ANSWER: c
POINTS: 1
DIFFICULTY: Easy
32. The credit crisis is mostly attributed to the use of:

a. strict criteria applied by mortgage originators.
b.liberal criteria applied by mortgage originators.
c. very tough credit ratings applied to mortgages.
d.fixed-rate mortgages with long terms to maturity.
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
33. Fannie Mae and Freddie Mac experienced financial problems during the credit crisis
because they:
a. were unwilling to finance new mortgages.

b.invested heavily in balloon mortgages.
c. invested only in prime mortgages that offered very low returns.
d.invested heavily in subprime mortgages.
ANSWER: d
POINTS: 1
34. ____ mortgages enabled more people with relatively lower income, or high existing
debt, or a small down payment to purchase homes.
a. Prime
b.Balloon
c. Amortized
d.Subprime
ANSWER: d
POINTS: 1
DIFFICULTY: Easy
35. The secondary mortgage market accommodates originators of mortgages who

desire to sell their mortgages before maturity.
a. True
b.False
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
36. Regardless of what happens to market interest rates, most adjustable-rate

mortgages (ARMs) specify a maximum allowable fluctuation in the mortgage rate per
year and over the mortgage life.
a. True
b.False
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
37. Some adjustable-rate mortgages (ARMs) contain an option clause that allows
mortgage holders to switch to a fixed-rate mortgage within a specified period.
a. True
b.False
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
38. Mortgage lenders normally charge a higher initial interest rate on adjustable-rate
mortgages than on fixed-rate mortgages.
a. True
b. False
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
39. A balloon-payment mortgage requires interest payments for a three- to five-year
period. At the end of this period, full payment of the principal (the balloon payment) is
required.
a. True
b.False
ANSWER: a
POINTS: 1
40. During the early years of a mortgage, most of the monthly payment reflects
principal.
a. True
b.False
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
41. Mortgages are rarely sold in the secondary market.
a. True
b.False
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
42. An increase in either the risk-free rate or the risk premium on a fixed-rate mortgage
results in a higher required rate of return when investing in the mortgage and therefore
causes the mortgage price to decrease.
a. True
b.False
ANSWER: a
POINTS: 1
43. Strong economic growth tends to reduce the probability that the issuer of a
mortgage will default on its debt payments and therefore tends to decrease mortgage
prices.
a. True
b.False
ANSWER: b
POINTS: 1
44. The higher the level of equity invested by the borrower, the higher the probability
that the loan will default.
a. True
b.False
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
45. Borrowers who have a lower level of income relative to the periodic loan payments
are more likely to default on their mortgages.
a. True
b.False
ANSWER: a
POINTS: 1
46. Non-U.S. financial institutions never hold mortgages on U.S. property.
a. True
b.False
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
47. The ____ market accommodates originators of mortgages that desire to sell their
mortgages prior to maturity.
a. primary
b.secondary
c. money
d.none of the above
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
48. Financial institutions that hold fixed-rate mortgages in their asset portfolios are
exposed to ____ risk, because they commonly use funds obtained from short-term
customer deposits to make long-term mortgage loans.
a. exchange rate
b.prepayment
c. reinvestment rate
d.interest rate
e. exchange rate
ANSWER: d
POINTS: 1
49. From the perspective of the lending financial institution, there is a ____ degree of
interest rate risk for ____-maturity mortgages.
a. higher; shorter
b.higher; longer
c. lower; shorter
d.lower; higher
e. Answers B and C are correct
ANSWER: e
POINTS: 1
DIFFICULTY: Easy
50. In the earlier years of a mortgage,
a. most of the monthly payment reflects principal reduction.

b.most of the monthly payment reflects interest.
c. about half of the monthly payment reflects interest.
d.all of the monthly payment reflects principal reduction.
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
51. Which of the following will typically require homeowners to ultimately request a new
mortgage?
a. graduated-payment mortgage (GPM)

c. balloon-payment mortgage
ANSWER: c
POINTS: 1
DIFFICULTY: Easy
52. Which of the following is not true with respect to a growing-equity mortgage?
a. It is similar to a graduated-payment mortgage

b.It allows borrowers to initially make small payments on the mortgage.
It involves increased payments, on a graduated basis, over the first five to ten
c.
years of the mortgage.
It involves payments that level off after the first five to ten years of the
d.
mortgage.
ANSWER: d
POINTS: 1
53. Which of the following is not a correct description of qualified mortgages?
They must comply with regulations issued by the Consumer Financial

a.
Protection Bureau.
b.Their term cannot exceed 30 years.
c. They cannot be interest-only mortgages or result in negative amortization.
They must be retained by the lending institution that originated the mortgages
d.
and cannot be sold.
e. They place limits on the borrower’s debt-to-income ratio.
ANSWER: d
POINTS: 1
54. The probability that a borrower will default (credit risk) is influenced by all of the
following, except
a. economic conditions.
b.the level of equity invested by the borrower
c. the borrower’s income level.
d.the borrower’s credit history.
e. Credit risk is affected by all of the above.
ANSWER: a
POINTS: 1
55. In a short sale of a home:
the lender forecloses and then sells the home for less than what is owed on the
a.
mortgage.
the lender allows the homeowner to sell the home for less than what is owed on
b.
the mortgage.
c. the lender does not recover the full amount of the mortgage.
d.B and C
e. A and C
ANSWER: d
POINTS: 1
56. An investor in interest-only collateralized mortgage obligations (CMOs) would not

be concerned that homeowners will prepay the underlying mortgages.
a. True
b.False
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
57.
The valuation of mortgage-backed securities is difficult because of limited
transparency.
a. True
b.False
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
58. A(n) _________ problem occurs when a person or institution does not have to bear
the full consequences of its behavior and therefore assumes more risk than it
otherwise would.
a. asymmetric information
b.moral hazard
c. risk adjustment
d.specific hazard
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
59. A __________ is a privately negotiated contract that protects investors against the
risk of default on particular debt securities such as mortgage-backed securities.
a. default insurance contract

b.default risk swap
c. credit default swap
d.collateralized debt obligation
ANSWER: c
POINTS: 1
DIFFICULTY: Easy
60. Speculators sell credit default swaps to benefit from the default of specific
subprime mortgages.
a. True
b.False
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
61. Financial institutions may purchase credit default swaps on mortgages if they
expect defaults on many mortgages.
a. True
b.False
ANSWER: a
POINTS: 1
DIFFICULTY: Easy
62. Financial institutions may sell credit default swaps on mortgages if they expect
defaults on many mortgages.
a. True
b.False
ANSWER: b
POINTS: 1
DIFFICULTY: Easy
63. At a given point in time, the price of a credit default swap contract should be
________ related to the default risk of the securities covered by the contract. For a given
set of securities that are covered by a credit default swap, the price of the contract
should be _______ related to the default risk as it changes over time.
a. positively; positively
b.positively; inversely
c. Inversely; positively
d.inversely; inversely
ANSWER: a
POINTS: 1
64. Bear Stearns commonly used __________ as collateral when borrowing short-term
funds, but its funding was cut off because prospective creditors questioned the quality
of the collateral.
a. commercial paper
b.Treasury securities
c. its stock
d.mortgages
ANSWER: d
POINTS: 1
DIFFICULTY: Easy
65. Lehman Brothers commonly used _________ as collateral when borrowing short-
term funds, but its funding was cut off because prospective creditors questioned the
quality of the collateral.
a. commercial paper
b.Treasury securities
c. its stock
d.mortgages
ANSWER: d
POINTS: 1
DIFFICULTY: Easy

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1.

3. A credit crunch occurs when:

a. interest rates decline.

4. According to the theory of rational expectations, higher inflationary expectations

5. A passive monetary policy adjusts the money supply automatically in response to

7. In general, there is:

a. a positive relationship between unemployment and inflation.

a. stimulate; place downward pressure on

a. Gross domestic product (GDP)

12. Which of the following is not an indicator of inflation?

a. housing price indexes

The Fed must receive approval by the administration before conducting

a. purchases Treasury securities.

a. it increases the money supply substantially.

27. Inflation is commonly the result of a

a. large budget deficit.

a. is a reduction in interest rates.

a. low and steady

a. excessive U.S. population growth on interest rates.

31. Which of the following is not an effect of a stimulative monetary policy?

a. The risk-free rate and the credit risk premium increase.

a. an outward shift in the supply schedule of loanable funds.

35. According to the theory of rational expectations, higher inflationary expectations

a. U.S. exports; U.S. imports; weaken

a. commercial paper rate.

52. Which of the following might be monitored as an indicator of inflation?

a. consumer price index

The effects of a stimulative policy may be disrupted by expectations of

Fear of a financial crisis throughout Europe discouraged investors and firms

1. Mortgage-backed securities are commonly contained within collateralized debt

a. loan repayment to the lending financial institution.

4. An institution that originates and holds a fixed-rate mortgage is adversely affected by

5. Rates for adjustable-rate mortgages are commonly tied to the

a. average prime rate over the previous year.

6. Caps on mortgage rate fluctuations with adjustable-rate mortgages (ARMs) are

a. 2 percent per year and 5 percent for the mortgage lifetime.

a. lower on a 30-year fixed-rate mortgage than on a 15-year fixed-rate mortgage.

8. Mortgage companies specialize in

a. purchasing mortgages originated by other financial institutions.

a. 30-year fixed-rate mortgage; 15-year fixed-rate mortgage

a. graduated payment mortgage.

a. higher than; behind

20. ”Securitization” refers to the private insurance of conventional mortgages.

a. interest rate risk.

23. Which of the following is not a guarantor of federally insured mortgages?

a. Federal Housing Administration (FHA)

a. Strong; increase; decrease

a. whether the mortgage is federally insured.

a. participation certificates (PCs)

32. The credit crisis is mostly attributed to the use of:

a. were unwilling to finance new mortgages.

35. The secondary mortgage market accommodates originators of mortgages who

36. Regardless of what happens to market interest rates, most adjustable-rate

41. Mortgages are rarely sold in the secondary market.

50. In the earlier years of a mortgage,

a. most of the monthly payment reflects principal reduction.

a. graduated-payment mortgage (GPM)

a. It is similar to a graduated-payment mortgage

53. Which of the following is not a correct description of qualified mortgages?

They must comply with regulations issued by the Consumer Financial

55. In a short sale of a home:

56. An investor in interest-only collateralized mortgage obligations (CMOs) would not