Chapter 5 Economic Policy RQ Flashcards
Identify a function that the Bank of Canada performs as a fiscal agent to the federal government.
A. Advising the federal government on tax policies.
B. Managing the government’s foreign currency reserves.
C. Managing the nation’s money supply.
D. Preparing the federal budget each year.
B. Managing the government’s foreign currency reserves
The Bank is the fiscal agent for the Government of Canada. Among other functions, it manages the government’s foreign currency reserves, such as US dollars, Euros, and gold and silver.
What current monetary policy target does the Bank of Canada use to promote sustained economic growth with price stability?
A. Maintain inflation within a 1% to 3% target range.
B. Maintain growth in the money supply at a 5% annual rate.
C. Keep inflation within a 1% range of our major trading partners.
D. Ensure that the value of the Canadian dollar stays within a narrow trading range of the U.S. dollar.
A. Maintain inflation within a 1% to 3% target range.
Since 1991, the Bank has committed to specific inflation-control targets that establish a target range within which it aims to contain annual inflation as measured by the year-over-year rate of increase in the CPI. Currently, the target range extends from 1% to 3%.
How is the Bank Rate set?
A. 0.25% above the average treasury bill rate.
B. The average of the bids received for government bonds at auction.
C. Lower limit of the Bank of Canada’s “operating band”.
D. Upper limit of the Bank of Canada’s “operating band”.
D. Upper limit of the Bank of Canada’s “operating band”.
The Bank of Canada sets the Bank Rate at the upper limit of the operating band for overnight financing. The Bank will announce, through a press release, changes to the band in response to changing monetary situations.
When will the Bank of Canada use Sale and Repurchase Agreements (SRAs)?
A. When there is undesired upward pressure on overnight rates.
B. When there is undesired downward pressure on overnight rates.
C. When the exchange rate becomes volatile and moves outside of a desired trading range.
D. When the money supply is decreasing too rapidly.
B. When there is undesired downward pressure on overnight rates.
Sale and repurchase agreements are used to alleviate undesired downward pressure on overnight lending rates. Through SRAs, the Bank of Canada sells securities to the chartered banks and agrees to repurchase them the next day. This reduces the liquidity in the system and helps maintain the level of overnight rates.
The Bank of Canada transferred deposits from the chartered banks. Identify the monetary policy that they utilized.
A. Redeposit.
B. SPRA.
C. Monetary suasion.
D. Drawdown.
D. Drawdown.
A drawdown refers to the transfer of deposits to the Bank of Canada from the chartered banks, effectively draining the supply of available cash balances from the banking system. This decreases deposits and reserves available to the banks to utilize in their business. Removing money from the system causes a contraction in the availability of loans to consumers and businesses, and this places upward pressure on interest rates.
The federal government needs to stimulate the economy. Identify the fiscal policies you would recommend they use.
A. Spend more and tax less.
B. Spend less and tax more.
C. Spend less and tax less.
D. Spend more and tax more.
A. Spend more and tax less.
Governments, through their power to tax, spend, and borrow, exercise enormous influence on the economy. Since the end of the Second World War, most Western governments have taken it for granted that one of their duties is to smooth out the business cycle, by spending more and taxing less when the economy is weak, and by spending less and taxing more when it is strong.
Identify the correct relationship and consequences between government revenue and spending.
A. When government revenue is greater than spending, the government would have a surplus budget position. This would likely lead to a higher national debt.
B. When government revenue is lower than spending, the government would have a surplus budget position. This would likely lead to a lower national debt.
C. When government revenue is lower than spending, the government would have a deficit budget position. This would likely lead to a higher national debt.
D. When government revenue is greater than spending, the government would have a deficit budget position. This would likely lead to a lower national debt.
C. When government revenue is lower than spending, the government would have a deficit budget position. This would likely lead to a higher national debt.
When government revenue is less than government spending, the government is running a deficit. As a result of spending more on programs and services than the revenue collected, the government will likely need to borrow funds in the form of issuing bonds. This will generally lead to an increase in Canada’s national debt.
Identify a significant negative implication for a country with a large national debt?
A. Interest rates must be maintained at low levels to reduce government interest expenses.
B. Fiscal policy options are restricted due to the high level of debt.
C. The government must continue to run deficits to finance the debt.
D. Fiscal and monetary policy become ineffective.
B. Fiscal policy options are restricted due to the high level of debt.
A large national debt constrains the government’s fiscal policy options. For example, in a recession, the government cannot increase the deficit to stimulate the economy as this would also increase the national debt level.
Overnight money is trading at 3.5%, which is above the Bank Rate of 3.25%. The Bank of Canada offers to lend overnight money to chartered banks. The chartered banks give the Bank of Canada treasury bills as collateral for the loan, getting them back the next day when the loan is repaid. What type of monetary policy tool is the government utilizing?
A. Reverse special agreement.
B. Sale and repurchase agreement.
C. Special purchase and resale agreement.
D. Drawdown agreement.
C. Special purchase and resale agreement.
The Bank of Canada has a separate set of open market operations to influence the overnight rate. If overnight money is trading at 3.5% and the Bank of Canada wants to lower the rate, it may offer to lend overnight money to the chartered banks at 3.25%. The banks give the Bank of Canada treasury bills as collateral for the loan, getting them back the next day when the loan is repaid. Because the Bank of Canada is essentially buying the T-bill with an agreement to sell it back the next day, this operation is called a special purchase and resale agreement, or special for short.
Identify the two most important ways in which the Bank of Canada influences interest rates.
A. Cash management and fiscal policy.
B. Debt management and setting reserve requirements.
C. Cash management and open market operations.
D. Fiscal policy and open market operations.C. Cash management and open market operations.
C. Cash management and open market operations.
The Bank of Canada conducts monetary policy through its influence over short-term interest rates. It does this primarily through cash management mechanisms and open market operations.
The Bank Rate is currently 2.5%. If the overnight market becomes volatile and the Bank of Canada needs to intervene, at what point will they begin to offer SRAs?
A. When rates fall below 2.0%.
B. When rates fall to 2.25%.
C. When rates rise above 2.5%.
D. When rates rise above 3.0%.
A. When rates fall below 2.0%.
SRAs are conducted at the bottom end of the band. The band itself is 50 basis points wide. In this question, the top end of the band is 2.5% while the bottom or floor is 2.0%. This operation is used to reinforce lower the limit or floor of the operating band.
What policy action should the Bank of Canada take if it is concerned that interest rates are too high?
A. Increase government spending and decrease taxes.
B. Implement a redeposit to increase the money available in the economy.
C. Implement a drawdown to decrease the money available in the economy.
D. Decrease government spending and increase taxes.
B. Implement a redeposit to increase the money available in the economy.
A redeposit is a transfer of funds from the Bank to the chartered banks. This increases deposits and reserves and the availability of funds in the banking system. Adding money to the system places downward pressure on interest and gives banks an incentive to increase loans to consumers and businesses.
If the lower band of the overnight rate of interest is 1.25%, at what rate will the Bank of Canada, as lender of last resort, lend money to the members of Payments Canada?
A. 1.00%
B. 1.25%
C. 1.50%
D. 1.75%
D. 1.75%
When the Target for the Overnight Rate is 1.50%, the lower band would be 25 basis points below the overnight rate at 1.25%, while the upper band would be 25 basis points above the overnight rate at 1.75%. The upper band rate is also known as the Bank Rate and represents the minimum rate at which the Bank of Canada will lend money on a short-term basis to the chartered banks and other members of Payments Canada in its role as lender of last resort.
Last year, the government ran a budget surplus. What impact is this likely to have on the national debt?
A. The national debt will increase by the amount of the surplus.
B. The national debt will decrease if the government chooses to use the surplus to pay it down.
C. It will have no impact on the national debt as the government budget and the national debt are unrelated.
D. It will have no impact on the national debt as all surpluses must be spent in the year they are incurred as the government must always run a balanced budget.
B. The national debt will decrease if the government chooses to use the surplus to pay it down.
If the revenue collected during the year exceeds spending for the year, the government has a budget surplus. If total spending for the year is higher than the revenue collected, the government has a budget deficit for the year. The amount of the surplus or deficit is the most important number in the budget, because it tells markets the extent to which the government will be borrowing in the coming year and how it will compete with other borrowers for funds. The government can use the surplus to pay down the national debt.
How do participating financial institutions electronically conduct large transactions with each other?
A. They implement drawdowns and redeposits.
B. They negotiate Sale and Repurchase Agreements (SRAs).
C. They utilize the Large Value Transfer System (LVTS).
D. They negotiate Special Purchase and Resale Agreements (SPRAs).
C. They utilize the Large Value Transfer System (LVTS).
To facilitate the transfer of payments between the major financial institutions, the Bank established the Large Value Transfer System (LVTS). This system allows participating financial institutions to conduct large transactions with each other through an electronic wire system. Among other things, this system permits these financial institutions to track their LVTS receipts and payments electronically throughout the day and to know the net outcome of these flows by the end of the day (same day settlement).
