Chapter 31 Monetary Policy

Question 1

Define: short term interest rates

Answer 1

Rates on financial assets that come due, or mature, within less than a year

Question 2

High opportunity cost of holding money is due to . . .

Answer 2

High short term interest rates

Question 3

Rates of interest on financial assets that mature or come due a number of years into the future are called . . .

Answer 3

Long term interest rates

Question 4

What shows the relationship between the quantity of money demanded and the interest-rate?

Answer 4

The money demand curve

Question 5

What factors shift the money demand curve?

Answer 5

Changes in the aggregate price level
Changes in real GDP
Changes in banking technology
Changes in banking institutions
Changes in spending needs
Changes in substitutes
Changes in optimism

Question 6

How does an increase in the Aggregate price level affect the money demand curve?

Answer 6

Higher prices increase the demand for money, this is a rightward shift of the MD Curve.

Question 7

Why is the shift in the money demand curve proportional to the increase in the aggregate price levels?

Answer 7

Because an increase of 20% in aggregate price levels also implies that it takes 20% more money to purchase the same things as before.

Question 8

How does a fall in real GDP shift the money demand curve?

Answer 8

The money demand curve shifts leftward.

Question 9

What does the following example illustrate?

With the advent of ATMs in the 1970s the demand for money fell and the money demand curve shifted leftward.

Answer 9

A shift in the money demand curve due to changes in technology

Question 10

What does the elimination of Regulation Q in 1980 represent?

Answer 10

Changes in institutions. In this case, a shift of the money demand curve to the right.

Question 11

What is a basis point?

Answer 11

0.01 of a percentage point

Question 12

How often does the Federal open market committee meet?

Answer 12

Eight times a year

Question 13

What is the liquidity preference model of the interest rate?

Answer 13

According to the liquidity preference model of the interest rate, the interest rate is determined by the supply and demand for money

Question 14

What is the money supply curve?

Answer 14

The money supply curve shows the quantity of money supplied by the Federal Reserve. It is vertical.

Question 15

What is expansionary monetary policy?

Answer 15

It is an expansion of the money supply. An increase in the money supply lowers market interest rates which, in turn, will lead, other things equal, to more investment spending, which will lead to higher real GDP, which will lead to a higher consumer spending, etc.

Question 16

What is contractionary monetary policy?

Answer 16

When the Federal Reserve contract the money supply this leads to a higher interest rate. The higher interest rate leads to lower investment spending, which leads to lower real GDP, which is the lower consumer spending, etc.

Question 17

Who was John Taylor?

Answer 17

He was an economist at Stanford who, in 1993, suggested that monetary policy should follow a simple rule that takes into account concerns about the business cycle and inflation.
Federal funds rate = 1 + (1.5 x inflation rate) + (0.5 x output gap)

Question 18

What is monetary neutrality?

Answer 18

The concept that states that changes in the money supply have no real effects on the economy in the long run