Ch. 5 Flashcards
market equilibrium
the point at which the quantity supplied equals the quantity demanded.
wealth
the total resources owned by the individual, including all assets
expected return
the return expected over the next period on one asset relative to the alternative assets
Risk
the degree of uncertainty associated with the return on one asset relative to alternative assets
Liquidity
the ease and speed with which an asset can be turned into cash relative to alternative assets
Holding everything else constant, an increase in Wealth _____________ the quantity demanded of an asset.
raises
An increase in an asset’s expected return relative to that of an alternative asset, holding everything else unchanged, _________ the quantity deanded of the asset.
raises
Holding everything else constant, if an asset’s risk rises relative to that of alternative assets, its quantity deamanded will __________.
fall
The more liquid an asset is relative to alternative assets, holding everything else unchanged, the _____ desirable it is and the greater the quantity demanded will be.
more
Theory of Portfolio Choice states holding all other factors constant…
- quantity demanded of an asset is positively related to wealth.
- quantity demanded of an asset is positively related to its expected return relative to alternative assets.
- quantity demanded of an asset is negatively related to the risk of its return relative to alternative assets.
- quantity demanded of an asset is positively related to its liquidity relative to alternative assets.
bond demand curve
shows the relationship between the quantity demanded and the price when all other economic variables are held constant; demand increases as the price of the bond falls.
supply curve
shows there relationship between the quantity applied and the price when all other economic variables are held constant; as price rises for the bond, the supply increases.
when quantity of bonds supplied exceeds the quantity of bond demanded
excess supply; when this happens price will continue to fall towards equilibrium
excess demand
when people want to buy more bonds than others are willing to sell; here the price of the bond is rising towards equilibrium
Shifts in Demand on bonds is caused by:
- Changes in wealth
- Expected returns on bonds relative to alternative assets
- Risk of bonds relative to alternative assets
- liquidity of bonds relative to alternative assets
In a business cycle expansion with growing wealth, the demand for bonds ______ and the demand curve for bonds shifts to the ______.
rises; right.
In a recession, when income and wealth are _________, the demand for bonds ______, and the demand curve shifts to the ______.
falling; falls; left
Higher expected future interest rates lower the expected return for long term bonds, ________ the demand, and shift the demand curve to the _______.
decrease; left
Lower expected future interest rates ________ the demand for long-term bonds and shift the demand curve to the ______.
increase; right
An increase in expected return on alternative assets ______ the demand for bonds and shifts the demand curve to the ______.
lowers; left
An increase in the expected rate of inflation _______ the expected return on bonds, causing their demand to ________ and the demand curve to shift to the ______.
lowers; decline; left
An increase in the riskiness of bonds causes the demand for bonds to ______ and the demand curve to shift to the _____.
fall; left
An increase in the riskiness of alternative assets causes the demand for bonds to _____ and the demand curve to shift to the _____.
rise; right
Increase liquidity of bonds results in an _________ demand for bonds, and the demand curve shifts to the _____.
increased; right
Increased liquidity of alternative assets _____ the demand for bonds and shifts the demand curve to the ____.
lowers; left
Factors that can cause a shift in supply of bonds:
- expected profitability of investment opportunities
- expected inflation
- government budget deficits
In a business cycle expansion; the supply of bonds _________ and the supply curve shifts to the _____.
increases; right
In a recession, when far fewer profitable investment opportunities are expected, the supply of bonds _____ and the supply curve shifts to the _____.
falls; left.
In increase in expected inflation causes the supply of bonds to _________ and the supply curve to shift to the ______.
increase; right
a decrease in expected inflation causes the supply of bonds to ______ and the supply curve to shift to the _____.
decrease; left
Higher gov’t deficits ________ the supply of bonds and shift the supply curve to the _____.
increase; right
Gov’t surpluses will ___________ the supply of bonds and shift the supply curve to the _____.
decrease; left
When expected inflation rises, interest rates will ____. This is called the ________ Effect.
rise; Fisher
In business cycle expansion, supply and demand curves shift ______ but we don’t know by how much, so we don’t know the new equilibrium price or _________ ______.
right; interest rates
An alternative model for determining the equilibrium rate, developed by Keynes; determined based on demand for Money that than on bonds.
Liquidity Preference Framework
What does the Liquidity Preference Framework state?
Total wealth in the economy must equal the total quantity of bonds PLUS money in the economy, which equals total quantity of bonds supplies the quantity of money supplied.
Opportunity Cost
the amount of interest sacrificed by not holding an alternative asset.
Shifts in Demand of Money: Income effect
a higher level of income causes the demand for money at each interest rate to increase and the demand curve to shift to there right.
Shifts in Demand of Money: Price Level Effect
a rise in the price level causes the demand for money at each interest rate to increase and the demand curve to shift to the right.
Shifts in Supply of Money
an increase in the supply of money by the Fed will shift the supply curve for money to the right.
Income effect: when income is rising during business expansion, interest rates will _____.
fall
Price Level effect: when price level increases, interest rates will _____.
rise
Shifts in Supply of Money: when the money supply increases, interest rates will ____.
fall
