14 Economic Factors

Question 1

Which of the following is a leading indicator?

A. # of hours worked by manufacturing employees
B. Savings
C. GDP
D. Personal income

Answer 1

A. # of hours worked by manufacturing employees

Rationale:
Memorize the list of indicators in your text book. That should get you two or three questions right on the exam.

Question 2

All of the following are lagging indicators except:

A. Duration of unemployment
B. Inventory
C. Capital equipment purchases
D. Savings

Answer 2

C. Capital equipment purchases

Rationale:
Companies buy capital equipment in anticipation of the orders they need to produce in the future.

Question 3

In order to stimulate a sluggish American economy the Federal Reserve Board might take which of the following actions?

A. Raise taxes
B. Cut taxes
C. Cut the discount rate
D. Raise the reserve requirement

Answer 3

C. Cut the discount rate

Rationale:
The FRB/FOMC can’t cut or raise taxes. If they raise the reserve requirement, money becomes tight and the economy slows down. If they lower the discount rate, that makes it easier to borrow money to help get the economy moving again.

Question 4

In order to stimulate a sluggish economy, the administrators of fiscal policy have which of the following tools available?

A. Tax rates
B. Reserve requirement
C. Discount rate
D. LIBOR

Answer 4

A. Tax rates

Rationale:
Fiscal policy involves taxation and spending policies only.

Question 5

Which of the following is the most drastic action the FRB can take?

A. Raise taxes
B. Raise the discount rate
C. Raise the reserve requirement
D. Cut taxes

Answer 5

C. Raise the reserve requirement

Rationale:
If the exam asks about drastic or infrequently used Fed tools, look for the reserve requirement and/or margin requirements.

Question 6

Which of the following is the least defensive industry?

A. Food service
B. Alcohol
C. Restaurants
D. Prescription drugs

Answer 6

C. Restaurants

Rationale:
A defensive industry produces things that are purchased in both good and bad times healthcare, food, basic clothing, tobacco, alcohol, prescription drugs, etc. Restaurants = one of the first items in your budget that will be cut during tough times . . . right?

Question 7

Which of the following theories advocates that government increase aggregate demand?

A. Keynesian
B. Interventionist
C. Supply side
D. Monetarist

Answer 7

A. Keynesian

Rationale:
Just something to memorize.

Question 8

An American exporter might benefit if the value of the American dollar:

A. Appreciates relative to foreign currencies
B. Fluctuates wildly
C. Appreciates
D. Depreciates relative to foreign currencies

Answer 8

D. Depreciates relative to foreign currencies

Rationale:
A weak dollar helps our exports to other countries.

Question 9

The Federal Reserve Board might decide to tighten credit due to an increase in which of the following?

A. Inventory levels
B. CPI
C. Unemployment claims
D. Defaults on business loans

Answer 9

B. CPI

Rationale:
The Fed fights inflation by raising interest rates.

Question 10

The Federal Reserve Board might decide to loosen credit due to an increase in which of the following?

A. Personal income
B. Inventory
C. GDP
D. CPI

Answer 10

B. Inventory

Rationale:
High inventory levels indicate that production will slow down until that inventory has been sold off. To help the economy, the Fed would loosen credit. An increase in GDP and CPI would lead to a tightening of credit.

Question 11

The FOMC is selling T-bills. This will likely cause bond yields to:

A. Flatten
B. Increase
C. Spread out
D. Decrease

Answer 11

B. Increase

Rationale:
A tight money supply pushes up rates/yields, if the FOMC is selling to banks, they are pulling money out of the money supply.

Question 12

The FOMC is buying T-bills. This will cause bond prices to:

A. Increase
B. Consolidate
C. Stabilize
D. Decrease

Answer 12

A. Increase

Rationale:
If the FOMC is increasing the money in supply, rates will drop, which means bond prices will rise.

Question 13

M2 includes all of the following except:

A. Checking
B. Cash
C. Savings
D. Jumbo’s

Answer 13

D. Jumbo’s

Rationale:
Jumbo’s show up in M3.

Question 14

M1 includes all of the following except:

A. Checking
B. Repo’s
C. Coins
D. Cash

Answer 14

B. Repo’s

Rationale:
Something more to memorize, just in case it shows up. By the way, www.federalreserve.gov has a great tutorial on monetary policy, including M1, M2, M3.

Question 15

The economic theory that states the federal government should not over-regulate and should maintain low tax rates is referred to as:

A. The Kemp Manifesto
B. Supply Side
C. Modem Tax Theory
D. Monetarist

Answer 15

B. Supply Side

Rationale:
I would be surprised if a question like this showed up on the exam. But, I would not be that surprised.

Question 16

If the American dollar weakens, a current trade deficit would be expected to:

A. Experience no effective change
B. Worsen
C. Continue
D. Improve

Answer 16

D. Improve

Rationale:
A weak dollar makes our stuff cheap to other countries, making our exports to that country increase.

Question 17

If the American dollar strengthens, a current trade surplus would be expected to:

A. Improve
B. Extrapolate
C. Interpolate
D. Decrease

Answer 17

D. Decrease

Rationale:
A strong dollar makes our stuff expensive to other countries, making it harder to export and sell goods to that country.

Question 18

If the American dollar weakens relative to the Yen, which of the following statements is true?

A. American exports to Japan become less competitive with Japanese- made goods
B. Japanese goods imported into the US become more competitive with American goods
C. American exports to Japan become more competitive with Japanese- made goods
D. None of the choices listed

Answer 18

C. American exports to Japan become more competitive with Japanese- made goods

Rationale:
A weak dollar makes our stuff cheaper for the Japanese, making it easier to export to them and harder to import from them.

Question 19

An increase in the reserve requirement would be expected to have what effect on outstanding bonds?

A. Higher yields
B. Inverted yield curve
C. Lower yields
D. Higher prices

Answer 19

A. Higher yields

Rationale:
Rates and yields are the same darned thing, so if the money supply is tightened by making banks lock up more money in reserves, rates/yields will increase. Bond prices, by the way, would decrease.

Question 20

The discount rate is:

A. The rate charged among member banks for overnight loans in excess of $1 million
B. The difference between price paid and received only on STRIPS and receipts
C. The difference between price paid and received on zero coupon bonds
D. The rate charged by the FRB to member banks

Answer 20

D. The rate charged by the FRB to member banks

Rationale:
Banks lend money to each other at the fed funds rate. Banks borrow from the FRB at the discount rate.

Question 21

The fed funds rate is:

A. Set by the FRB quarterly
B. Set by the FRB annually
C. The rate charged by the Federal Reserve Board to member banks
D. Volatile

Answer 21

D. Volatile

Rationale:
Guess how quickly the overnight lending rate among banks can change?

Question 22

The stage of the business cycle that follows prosperity is called:

A. Expansion
B. Recovery
C. Contraction
D. Trough

Answer 22

C. Contraction

Rationale:
Lucky for you, the period can be called either “peak” or “prosperity,” and the stage right after that can be called “contraction” or “decline.”

Question 23

Arise in all of the following would be considered a positive indicator except:

A. S&P500
B. Inventory
C. M2
D. GDP

Answer 23

B. Inventory

Rationale:
High inventory is a bad sign. That indicates that companies will not be producing more goods until the inventories are sold off, and that pricing power will drop as they hold all the “everything must go” sales designed to liquidate a bunch of stuff that should have been sold weeks ago.

Question 24

A drop in all of the following would be considered a positive indicator except:

A. CPI
B. Prime rate
C. Inventory
D. Building permits

Answer 24

D. Building permits

Rationale:
A drop in building permits indicates a slow-down in the new housing market. Fewer people hiring all the building trade companies, fewer people taking out loans, fewer people rushing off to Home Depot three times every Saturday, etc.

Question 25

Two consecutive quarters of GDP decline is known as a:

A. Trough
B. Recession
C. Depression
D. Double dip

Answer 25

B. Recession

Rationale:
A recession lasts from two quarters (six months) to six quarters (18 months). After that, we call it a depression.

Question 26

What type of indicator is the stock market?

A. Leading
B. Lagging
C. Unreliable
D. Infallible

Answer 26

A. Leading

Rationale:
The stock market (S&P500) always looks forward/speculates. Leading indicator.

Question 27

A general decline in the prices of basic goods is called:

A. Depression
B. Deflation
C. Recession
D. Contraction

Answer 27

B. Deflation

Rationale:
Rising prices = inflation; falling prices = deflation. Just like a beach ball, the economy can inflate or deflate. Too much inflation, and the thing explodes. Too much deflation, and the thing is just as useless.

Question 28

Declining GDP coupled with high inflation is called:

A. Advanced conflagration
B. Stagflation
C. Recessed diametric
D. Expansion

Answer 28

B. Stagflation

Rationale:
Usually inflation is seen during an expansion. So, if the GDP is declining but inflation is rising anyway, that doesn’t fit the usual model. Rather than admit they are wrong, economists prefer to give the phenomenon a new name. And what else would we call the combination of stagnation and inflation but “stagflation?”

Question 29

Which of the following types of companies would be expected to have the highest debt ratio?

A. Growth
B. REITs
C. Law firms
D. Software

Answer 29

B. REITs

Rationale:
Real estate investing involves a lot of borrowing.

Question 30

Fiscal policy includes all of the following except:

A. Congress
B. Spending
C. Reserve requirement
D. Taxes

Answer 30

C. Reserve requirement

Rationale:
The reserve requirement is a tool of monetary policy.

Question 31

During an inflationary period the FRB would do all of the following except:

A. Buy T-bills
B. Raise discount rate
C. Sell T-bills
D. Raise reserve requirement

Answer 31

A. Buy T-bills

Rationale:
Buying Treasuries would pump even more inflation into the economy. Like throwing gasoline on the fire.

Question 32

The U.S. dollar has depreciated versus the Canadian Dollar. This means that:

A. Both choices listed
B. Neither choice listed
C. Imports from Canada to the U.S. are more attractive to U.S. consumers
D. Imports from Canada are less attractive to U.S. consumers

Answer 32

D. Imports from Canada are less attractive to U.S. consumers

Rationale:
A weak dollar makes it harder for Americans to buy foreign goods.

Question 33

The FOMC is selling US Treasury securities. Therefore, bond yields will:

A. Move inversely with interest rates
B. Fall
C. Rise
D. Move proportionately with price

Answer 33

C. Rise

Rationale:
If the “Fed” is selling, they are pulling money out of supply. Rates and yields rise, bond prices fall.

Question 34

Inflationary pressures have arisen recently. Monetarists would advocate doing all of the following except:

A. Raising the discount rate
B. Buying T-bills from primary dealers
C. Raising the reserve requirement
D. Selling T-bills to primary dealers

Answer 34

B. Buying T-bills from primary dealers

Rationale:
Buying Treasuries would pump even more inflation into the economy, basically dousing the fire with gasoline.

Question 35

Which of the following stocks is least likely to be considered non-cyclical?

A. Automobiles
B. Cigarettes
C. Food
D. Utilities

Answer 35

A. Automobiles

Rationale:
This question shows how the wording of a question can cause big challenges. The question asks which of the following industries is the least defensive/non-cyclical. Automobile purchases increase during an expansion and decrease during a contraction. The other essentials are purchased regularly in both good and bad times.

Question 36

The FOMC is selling treasury securities. What will be the likely effect on outstanding bonds?

A. None of the choices listed
B. Yields will fall
C. Prices will fall
D. Prices will rise

Answer 36

C. Prices will fall

Rationale:
If the “Fed” sells Treasuries, they pull money out of the banking system. That raises rates and yields, which is another way of saying that it pushes down the price of existing bonds.

Question 37

A current trade deficit that the US is running versus Japan would likely be improved by which TWO of the following?

I. Value of US dollar rises vs. Yen
II. Value of US dollar drops vs. Yen
III. Value of Yen drops vs. US dollar
IV. Value of Yen rises vs. US dollar

A. I, IV
B. II, IV
C. II, III
D. I, III

Answer 37

B. II, IV

Rationale:
If the dollar is weak vs. the Yen, the Japanese can buy more of our “stuff,” helping exports from the US to Japan. Do we want the dollar to weaken or the Yen to rise? Yes, we do.

Question 38

To fight inflation, the FRB would pursue a “tight money policy,” which includes:

A. Lowering the discount rate
B. Relaxing the reserve requirement
C. Selling securities
D. Buying gold

Answer 38

C. Selling securities

Rationale:
A tight money policy = raise discount rate, raise reserve requirement, sell securities.