AP EXAM: Unit 4

Question 1

What’s the most liquid form of money?

Answer 1

Cash

Question 2

What are bonds?

Answer 2

Interest-bearing debt contracts issued by governments or corporations

Question 3

Why is interest rate important in bonds?

Answer 3

No rational investor would be willing to pay without getting a sufficient rate of return, because there’s no benefit.

Question 4

Interest on Investment (Formula)

Answer 4

Investor’s return/Purchase price x 100

Question 5

Role of interest rate in investment and demand for money

Answer 5

Demand for money is inversely related to interest rate in the economy

Question 6

How is nominal interest rate set?

Answer 6

Based on desired rate of return and expected rate of inflation

Question 7

Role of expected inflation in the economy

Answer 7

Higher expected inflation will lead banks to raise the inflation premium and increase NIR

Question 8

Commodity money

Answer 8

Value comes from the commodity of which it is made

Question 9

Fiat money

Answer 9

No intrinsic value

Question 10

Three functions of money

Answer 10

Medium of exchange, store of value, unit of account

Question 11

Medium of exchange

Answer 11

Money is accepted as a means for purchasing goods, services, or other assets

Question 12

Store of value

Answer 12

Assets can transfer purchasing power from present to future

Question 13

Unit of account

Answer 13

Used to express the value of something

Question 14

M0

Answer 14

Monetary base (currency in circulation, reserves held at bank)

Question 15

M1

Answer 15

Monetary base + Demand Deposits

Question 16

M2

Answer 16

M1 + Savings, MM Mutual Funds, broadest measure of money supply

Question 17

Reserve requirement ratio

Answer 17

Required reserves/Total deposits

Question 18

Money multiplier

Answer 18

1/RRR

Question 19

Relationship of money multipler and money supply/monetary base

Answer 19

Money multiplier is ratio of money supply to monetary base

Question 20

Other ways multiplier can be calculated

Answer 20

M2/M0 (Ratio of M2 over M0)

Question 21

Asset demand for money

Answer 21

Inversely related to the interest rate

Question 22

Transaction demand for money

Answer 22

Inversely related to the interest rate

Question 23

What causes changes in the money demand curve?

Answer 23

Change in national income and consumption

Question 24

Factors that shift the supply of money

Answer 24

Monetary policy

Question 25

Relation between interest rates and demand for money

Answer 25

Inflation –> Money Demand increases, Deflation –> Money demand decreases

Question 26

Tools for controlling supply of money used by central bank

Answer 26

Buying/selling of government bonds, changing reserve requirement ratio, changing discount rate

Question 27

Formula for desired change in money supply

Answer 27

Change in excess reserves multiplied by the money multiplier

Question 28

Needed sale of bonds formula

Answer 28

Desired change in money supply over money multiplier

Question 29

Demand in the loanable funds market illustrates…

Answer 29

The relationship between the RIR and the willingness to save funds, and the willingness to borrow funds for investment

Question 30

Formula for investment in a closed economy

Answer 30

I = Y (real output) - C (consumption) - G (government purchases)

Question 31

In a closed economy, national savings…

Answer 31

Is the sum of both private sector and public sector savings

Question 32

The supply of loanable funds describes the relationship between…

Answer 32

The real interest rate and the quantity of funds supplied by a nation’s households and firms

Question 33

Formula for investment in an open economy

Answer 33

I = National savings (S) + Net capital inflow