PRACTICE

SUBJECT: ECONOMICS OF MONEY AND BANKING

Duration: 90 mins

Part I: Multiple choices ( 20 questions – 0.25 point each)

1 2 3 4 5 6 7 8 9 10

11 12 13 14 15 16 17 18 19 20

1. An increase in interest rates might ________ saving because more can be earned in
interest income.
A) encourage
B) discourage
C) disallow
D) invalidate

2. If the maturity of a debt instrument is less than one year, the debt is called
A) short-term.
B) intermediate-term.
C) long-term.
D) prima-term.

3. Of money's three functions, the one that distinguishes money from other assets is its
function as a
A) store of value.
B) unit of account.
C) standard of deferred payment.
D) medium of exchange.

4. A coupon bond that has no maturity date and no repayment of principal is called a
A) cabinet.
B) consol.
C) Treasury bill.
D) Treasury note.

5. An $8,000 coupon bond with a $400 coupon payment every year has a coupon rate of
A) 5 percent.
B) 8 percent.
C) 10 percent.
D) 40 percent.

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 6. When the price of a bond is above the equilibrium price, there is an excess ________
bonds and price will ________.
A) demand for; rise
B) demand for; fall
C) supply of; fall
D) supply of; rise

7. In order to reduce the ________ problem in loan markets, bankers collect information
from prospective borrowers to screen out the bad credit risks from the good ones.
A) moral hazard
B) adverse lending
C) moral suasion
D) adverse selection

8. Bankers' concerns regarding the optimal mix of excess reserves, secondary reserves,
borrowings from the Fed, and borrowings from other banks to deal with deposit
outflows is an example of
A) liability management.
B) liquidity management.
C) managing interest rate risk.
D) managing credit risk.

9. Banks hold capital because

A) they are required to by regulatory authorities.
B) higher capital increases the returns to the owners.
C) it increases the likelihood of bankruptcy.
D) higher capital increases the return on equity

10. Which of the following statements is TRUE?

A) State and local governments cannot default on their bonds.
B) Bonds issued by state and local governments are called municipal bonds.
C) All government issued bonds—local, state, and federal—are federal income tax exempt.
D) The coupon payment on municipal bonds is usually higher than the coupon payment on
Treasury bonds.

11. When you deposit a $50 bill in the Security Pacific National Bank
A) its liabilities decrease by $50.
B) its assets increase by $50.
C) its reserves decrease by $50.
D) its cash items in the process of collection increase by $50.

12. If the required reserve ratio is 10 percent, currency in circulation is $400 billion,
checkable deposits are $1000 billion, and excess reserves total $1 billion, then the
currency-deposit ratio is
A) 0.25.
B) 0.50.
C) 0.40.
D) 0.05.

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 13. Everything else held constant, an increase in the required reserve ratio on checkable
deposits will cause
A) the money supply to rise.
B) the money supply to remain constant.
C) the money supply to fall.
D) checkable deposits to rise.

14. If the required reserve ratio is 15 percent, currency in circulation is $400 billion,
checkable deposits are $1000 billion, and excess reserves total $1 billion, then the M1
money multiplier is
A) 2.54.
B) 2.67.
C) 2.35.
D) 0.551.

15. Everything else held constant, a decrease in the required reserve ratio on checkable
deposits will mean
A) a decrease in the money supply.
B) an increase in the money supply.
C) a decrease in checkable deposits.
D) an increase in discount loans.

16. Instrument independence is the ability of ________ to set monetary policy ________.
A) the central bank; goals
B) Congress; goals
C) Congress; instruments
D) the central bank; instruments

17. Exchange rates are determined in

A) the money market.
B) the foreign exchange market.
C) the stock market.
D) the capital market.

18. The ________ states that exchange rates between any two currencies will adjust to
reflect changes in the price levels of the two countries.
A) theory of purchasing power parity
B) law of one price
C) theory of money neutrality
D) quantity theory of money

19. ________ are the most important monetary policy tool because they are the primary
determinant of changes in the ________, the main source of fluctuations in the money
supply.
A) Open market operations; monetary base
B) Open market operations; money multiplier
C) Changes in reserve requirements; monetary base
D) Changes in reserve requirements; money multiplier

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 20. Everything else held constant, when a country's currency depreciates, its goods
abroad become ________ expensive while foreign goods in that country become
________ expensive.
A) more; less
B) more; more
C) less; less
D) less; more

Part II – 4 questions
1. Explain why you would be more or less willing to buy a house under the following
circumstances: (1.5 point)
a. You just inherited $100,000.
b. Real estate commissions fall from 6% of the sales price to 5% of the sales price.
c. Prices in the stock market become more volatile.

2. Using both the liquidity preference framework and the supply and demand for bonds
framework, show why interest rates are procyclical (rising when the economy is expanding and
falling during recessions). (1.5 point)
3. Bank A holds 10 million dollars in checkable deposits, $5 million in reserves, a 10%
reserve requirement ratio, and 9 million dollars in cash in the Federal Reserve. Calculate the
ratio of excess reserves / checkable deposits. (1 point)

4. If the price level recently increased by 20% in England while falling by 5% in the
United States, how much must the exchange rate change if PPP holds? Assume that the current
exchange rate is 0.7 pounds per dollar. (1 point)