Chapter 4

Question 1

Financial markets

Answer 1

banks, money market funds, mutual funds, investment funds, and hedge funds
play an essential role in the economy

Question 2

Functions of money

Answer 2

medium of exchange (spend time in barter economy)

unit of account (defines obligations, calculates GDP)

store of value (transfer purchasing power)

standard of deferred payment (paying debt)

Question 3

Money

Answer 3

you can use for transactions, pays no interest.

Question 4

Types of money

Answer 4

Currency (coins and bills)
chequable deposits (deposits in form of cheques)

Question 5

Bonds

Answer 5

pay a positive interest rate but they cannot be used for transactions.

Question 6

Motives for holding money

Answer 6

Transactions motive (rises with income)
Precautionary motive (unforeseen events; stronger as income rises)
Speculative (or asset) motive (less risky than bonds)

Question 7

The holding of money and bonds depends on what?

Answer 7

Your level of transaction
Interest rate on bonds

Question 8

Money market funds

Answer 8

pool together the funds of many people, then used to buy bonds

pay an interest rate close to, but slightly below, the interest rate on the bonds

Question 9

Income

Answer 9

what you earn from working, plus what you receive in interest and dividends.

Question 10

Saving

Answer 10

part of after-tax income that you do not spend

Question 11

Wealth

Answer 11

the value of what you have accumulated over time

Question 12

financial wealth

Answer 12

the value of all your financial assets minus all your financial liabilities
stock variable

Question 13

Investment

Answer 13

the purchase of new capital goods, from machines to plants to office buildings

Question 14

financial investment

Answer 14

the purchase of shares or other financial assets

Question 15

Demand for money

Answer 15

increases in proportion to nominal income, and
depends negatively on the interest rate.

Question 16

Determining interest rate

Answer 16

money supply: an increase in nominal income leads to an increase in the interest rate
An increase in the supply of money by the central bank leads to a decrease in the interest rate

Question 17

open-market operations

Answer 17

Central banks typically change the supply of money by buying or selling bonds in the bond market

Question 18

expansionary open-market operation

Answer 18

the central bank expands the supply of money by buying bonds.

Question 19

Contractionary open market operation

Answer 19

the central bank contracts the supply of money by selling bonds

Question 20

Central bank balance sheet

Answer 20

Asset: bonds
Liabilities: Money

Question 21

treasury bills (T-bills)

Answer 21

bonds issued by the government promising payment in a year or less
The higher the price of the bond, the lower the interest rate.
The higher the interest rate, the lower the price today.

Question 22

Financial intermediaries

Answer 22

institutions that receive funds from people and firms, and use these funds to buy financial assets or to make loans to other people and firms.

Question 23

repurchase market

Answer 23

an actual market for bank reserves

Question 24

repurchase rate (repo rate)

Answer 24

the interest rate determined in the repurchase market.
main indicator of SA’s monetary policy

Question 25

Liquidity trap

Answer 25

when the interest rate is down to zero, monetary policy cannot decrease it further.