Chapter 14

Question 1

The point an economy lay on the money demand curve curve will shift backwards along the curve if

Answer 1

the Fed decreases the discount rate.

Question 2

Between increases in income, increases in price level, and decreases in the interest rate, which will NOT shift the money demand curve to the right?

Answer 2

decrease in the interest rate

Question 3

The fall in value of one currency relative to another is an appreciation of a currency. (T/F)

Answer 3

false

Question 4

The speculative demand for money states that in the short run, people hold on to money because the return to holding bonds and stocks can be negative. (T/F)

Answer 4

true

Question 5

Supporters of stabilization policy argue that attempts to stabilize the economy can always be effective because of time lags. (T/F)

Answer 5

false

Question 6

Investment spending… is inversely related to the money supply, is independent of either the interest rate or money supply, increases as the interest rate increases, OR decreases as the interest rate increases?

Answer 6

decreases as the interest rate increases

Question 7

A Fed sale of government bonds will cause a reduction in the interest rate and an increase in the equilibrium quantity of money. (T/F)

Answer 7

false

Question 8

Which of the following is true when the U.S. dollar depreciates against the euro?

1. It takes more dollars to buy the euro.
2. It becomes more expensive for Americans to buy goods from Germany.
3. It takes fewer euros to buy the dollar.
4. All of these are correct.

Answer 8

all are correct

Question 9

When the economy is in a boom, the interest rates ________ and the bond prices ________.

Answer 9

increase; decrease

Question 10

The speculative demand for money is positively or negatively correlated with interest rates?

Answer 10

negatively

Question 11

When the economy is in a recession and the stock market plunges, the interest rates ________ and the bond prices ________.

Answer 11

decrease; increase

Question 12

An appreciation of the U.S. dollar will likely cause U.S. exports to ________ and U.S. imports to ________.

Answer 12

decrease; increase

Question 13

At lower interest rates,

1. there is a direct relationship between the interest rate and the quantity of money demanded.
2. people make a larger sacrifice in interest foregone for each dollar of money they hold.
3. bonds are more attractive than money.
4. people hold larger money balances.

Answer 13

people hold larger money balances

Question 14

In terms of the demand for money, the interest rate is _____.

Answer 14

the opportunity cost of holding money

Question 15

What in relation to the FOMC is a step that the Federal Reserve has taken to better control expectations of long term interest rates?

Answer 15

The Fed now asks the members of the FOMC for their predictions of future short-term interest rates and makes them public.

Question 16

An increase in the price level increases the transaction demand for money. (T/F)

Answer 16

true

Question 17

Define the money market.

Answer 17

market for money where the amount supplied and the amount demanded meet to determine the nominal interest rate.

Question 18

What is the difference between holding wealth as bonds/stocks and money/deposits in checking accounts?

Answer 18

Stocks/bonds will give you more money over time, but money will also facilitate transactions cause it’s super liquid.

Question 19

What are bonds and stocks? Connection to investors?

Answer 19

• Stocks are shares in the ownership of a corporation; two sources of income from them: dividends paid to their owners from the profits of the corporation, and the typical increase in their value time.
• Bonds are loans that repaid with interest.
• They both provide returns to investors.

Question 20

The opportunity cost of holding money is _____.

Answer 20

the return you could have earned by holding your wealth in other assets. This is measured in terms of interest rate: the interest rate is the cost of holding money.

Question 21

what is the transactional demand for money?

Answer 21

the demand for money based on the desire to facilitate transactions

Question 22

What is the relationship between the quantity of money demanded and interest rates?

Answer 22

negative

Question 23

what is the relationship between the demand for money and the overall price level of the economy?

Answer 23

positive

Question 24

What does an increase in real GDP mean for the demand for money?

Answer 24

it means incomes are increasing, and so individuals/firms want more money to make more transactions; demand for money goes up

Question 25

Aside from open market operations, what are the other four ways the fed can influence the supply of money? Explain all of them.

Answer 25

• Changing reserve requirements: decreasing reserve requirements will increase the supply of money
• Paying interest on excess reserves for banks: higher interest payments -> reduction in money supply
• Changing the discount rate: raising discount rate -> banks won’t borrow reserves so much from the fed
• Quantitative easing: Fed buys or sells long-term treasury bonds. Quantitative easing has the capacity to lower long-term interest rates directly at the same time it injects more money in the economy.

Question 26

In the short run, what happens if interest rates are higher than the equilibrium point between supply and demand for money? What if they’re lower?

Answer 26

higher => excess supply of money => prices fall

lower => excess demand of money => prices rise

Question 27

So why do politicians and business people want to know what the fed is up to?

Answer 27

because the fed directly controls short-term interest rates

Question 28

when the fed raises interest rates, bond prices _____

Answer 28

fall

Question 29

What is the equation for the price of a bond?

Answer 29

promised payment / (1 + interest rate)

Question 30

How does an increase in real GDP affect bond prices?

Answer 30

GDP price increase -> demand for money increases -> money demand curve moves to the right -> increased interest rates -> bonds fall

Question 31

How do open market operations affect investment?

Answer 31

bond purchases -> fall in interest rates -> rise in investment spending
bond sales -> rise in interest rates -> fall in investment spending

Question 32

Discount rate, federal funds market, and the federal funds rate

Answer 32

Interest rate at which banks can borrow from the fed
The market in which banks borrow and lend reserved to and from one another
The interest rate on reserves that banks lend each other

Question 33

What will open market operations do to net exports?

Answer 33

• bond sale -> rise in exchange rate -> decrease in net exports
• bond purchases -> fall in exchange rate -> increase in net exports