Exam 3 Flashcards by Rachel Beach

A __________ is a legal promise to repay a debt

bond

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The amount initially lent when a bond is issued is called the _______?

Principal amount

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The rate of interest promised when a bond is issued is called the

coupon rate

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If the principal amount on a 15 year bond is $5,000, and the annual coupon payment is $300, then the coupon rate is:

300/5000 = 0.06 (6%)

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Coupon payments are ________?

regular interest payments made to bondholders

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Suppose James buys a newly issued bond for $10,000. The bond pays $800 at the end of each year for the first 4 years, and then pays $10,800 upon its maturity at the end of the 5th year. In this example, the dollar value of the coupon payment is? and the principal is?

Coupon is 800
Principal is 10,000

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Corporations and governments frequently raise funds by issuing _____ and selling them to investors.

bonds

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Suppose James buys a newly issued bond for $5,000. The bond pays $250 at the end of each year for the first 4 years, and then pays $5,250 upon its maturity at the end of the 5th year. The term of this bond is:

5 years

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A regular payment received by stockholders for each share that they own is a

dividend

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Municipal bonds that are exempt from federal taxes have higher coupon rates than otherwise similar bonds. t/F

False

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________ are ownership shares in a corporation.

stock

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The returns that stockholders receive on their stock holdings include _____.

dividends and/or capital gains

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________ is the time at which the bonds are supposed to be repaid by the issuer.

maturity

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Suppose you expect Global Inc. to pay a dividend of $2 and to sell for $100 per share in one year. If the interest rate on government bonds is 5% and you require a risk premium of 3% to hold a share of Global Inc., then what is the most you’d be willing to pay for the stock now (rounded to the nearest dollar)?

102$/1.08 = 94 (approximant)

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An increase in interest rates tends to _____ stock prices

Lower (remember that interest rate has a negative relationship with stocks and bonds)

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The difference between the required rate of return to hold risky assets and the rate of return on safe assets is called the _____.

Risk premium

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If a company’s earnings are expected to increase in the future, then current stock prices:

Also tend to rise/increase

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Stock markets and bond markets help direct investment towards its most productive uses because investors:

can safely make risky but worthwhile investments by diversifying.

have a strong incentive to gather information about firms’ profitability

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___________is the difference between the required rate of return to hold risky assets and the rate of return on safe assets.

Risk premium

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____________is the practice of spreading one’s wealth over a variety of different financial investments to reduce overall risk.

Diversification

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A financial intermediary that sells shares in itself to the public, and then uses the funds raised to buy a wide variety of financial assets is called

Mutual fund

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Bond markets and stock markets do not help direct investment towards its most productive uses. t/f

False: By providing investors with a strong incentive to gather information about firms and by allowing investors to diversify, bond markets and stock markets help ensure that investment is directed towards its most productive uses.

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A mutual fund is ______.

a financial intermediary that sells shares in itself to the public and then uses the funds raised to buy a wide variety of financial assets

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Sydney purchases a newly issued, two-year government bond with a principal amount of $10,000 and a coupon rate of 7 percent paid annually. One year before the bonds matures (and after receiving the coupon payment for the first year), Sydney sells the bond in the bond market. What price (rounded to the nearest dollar) will Sydney receive for his bond if newly issued one-year government bonds are paying a 6 percent coupon rate?

10,000+0.07*10,000
Then divide by 1.06
10,094 (approximately)

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Decentralized market-based financial systems improve the allocation of saving by

providing information and risk-sharing services.

Who determines the beginning and the end of economic recessions/depressions?

NBER (National bureau of economic research. They aren't government they are a non-profit.

Business cycles are:

Short term fluctuations in GDP

Recessions tend to be followed by a _____ in the rate of inflation.

decline

Potential output is also sometimes called:

Full-employment output Potential GDP

Sharp increases in the unemployment rate are typically associated with:

Recessions

Potential output is:

the maximum sustainable level of real GDP

Recessions tend to be followed by a(n) _____ in the rate of inflation and are often preceded by a(n) _____ in the rate of inflation

Decrease, increase

The difference between actual output and potential output as a fraction of potential output is known as the _____.

Output gap

A recessionary gap occurs when:

Potential output exceeds actual output

Formula for output gap?

Real (or actual) GDP - Potential GDP / Potential GDP

The long-term and chronic unemployment that exists even when the economy is producing at a normal rate is called:

Structural unemployment

Cyclical unemployment is:

the extra unemployment that occurs during periods of recession

____ gaps imply that capital and labor resources are not being fully used, while _____ gaps typically lead to inflation. Thus, both are considered to be problems for policymakers.

Recessionary; expansionary

The part of unemployment due to structural and frictional unemployment is called the _____.

Natural rate of unemployment

Cyclical unemployment is zero when the economy has:

neither expansion or recession

If u denotes the total unemployment rate and un denotes the natural rate of unemployment, then u - un equals:

Cyclical unemployment

If the total unemployment rate is 3 percent, and the natural rate of unemployment is 4 percent, then cyclical unemployment is:

-1 (difference between total and natural

The natural rate of unemployment is the unemployment rate that prevails when cyclical unemployment is _____.

Zero

When the economy is experiencing a recessionary gap:

the total unemployment rate is greater than the natural rate of unemployment

In the short run, if firms meet the demand for their output at preset prices, then the primary cause of expansions are:

increases in economy wide spending

In the long run, firms will respond to expansionary gaps by:

Raising prices

Suppose Al sells ice cream. In the short run, the price of his ice cream is determined largely by ______.

Demand for the ice cream Using the best info about demand and cost

Consider a market for Al's ice cream. In the short run, ______.

producers tend to meet demand at preset prices

Cyclical unemployment is equal to zero when

Actual GDP and potential GDP are equal

In the short run, ______ determines output, and in the long run ______ determines output.

Total spending, potential output

The natural rate of unemployment is equal to the unemployment rate when there is only

structural and frictional unemployment.

What is the fundamental assumption of the basic Keynesian model?

In the short run, firms meet the demand for their product at preset prices.

The costs of changing prices are called _______ costs

Menu Costs

Menu costs will prevent firms from changing prices in the _____.

Short run (It's because it's preventing the cost change girl)

Total planned spending on final goods and services is called ______.

Planned aggregate expenditure

________ costs are the costs of changing prices

The sum of planned spending by households, firms, and government equals

Planned aggregate expenditure

Consumption spending is positively related to disposable

income

The ________ function relates consumption spending to disposable income and all other factors that might affect household spending.

consumption function

Consumption spending and disposable income are _____.

positively related

An increase in stock prices that makes households wealthier and thus more willing to spend would be captured by a change in _____.

Autonomous consumption

The tendency for changes in asset prices to affect households' consumption through changes in autonomous consumption is known as the _________ effct

Wealth

If disposable income rises by $20 billion and households consume $15 billion of the increase and save $5 billion of the increase, then the marginal propensity to consume is _____.

0.75 (Change in consumption/change in disposable income)

Which of the following could affect autonomous consumption?

Interest rate wealth asset prices

Consumption spending that is not related to the level of disposable income is known as __________ function

Autonomous consumption

The reason why the marginal propensity to consume is less than 1 is because when people receive an extra dollar of disposable income, they

spend part of the dollar and save the rest.

The amount by which consumption rises when disposable income rises by $1 is called the

Marginal propensity to consume (MPC)

If PAE=900+0.5Y, then autonomous expenditure is equal to _____.

900. correct Reason: Autonomous expenditure is the portion of planned aggregate expenditure (PAE) that is independent of output (Y).

Changes in output _____ planned aggregate expenditure. (Affect or not affect?

Affect.

If PAE=900+0.5Y, then the marginal propensity to consume is equal to _____.

0.5

If Y>PAE, then firms' inventories will _____.

Rise

if Y=4,200 and PAE is 4,140 then _____.

firms are producing more than they can sell

What two lines are included in a Keynesian-cross diagram?

the expenditure line a 45 degree line where Y=PAE

If initially PAE=900+.5Y, but a fall in planned investment leads autonomous expenditure to fall by 100, then short-run equilibrium output will fall to

1600 PAE = 800 + 0.5y 0.5y= 800/0.5 y = 1600

A recessionary gap could be caused by:

a fall in consumer spending a decline in government purchases A decrease in net exports a decrease in planned investment

If potential output equals actual output, then a fall in consumer spending will lead to an expansionary gap or a recessionary gap?

Recessionary!

If disruptions to financial markets make it more difficult for firms and consumers to borrow, then this will _____.

Lead to a recessionary gap

A fall in autonomous consumption will lead the income of workers who produce consumption goods to _____, leading to further _____ in consumption and output.

Fall ; Decreases

The higher is the marginal propensity to consume, the ____ will be the income-expenditure multiplier.

Higher

If an increase in consumers' uncertainty about the future leads to a decrease in autonomous consumption, then _____.

there will be a recessionary gap short-run equilibrium output will fall planned aggregate expenditure will fall

The nominal interest rate can be thought of as the price of:

holding money

An individual's demand for money is the amount of _____.

wealth an individual chooses to hold in the form of money

The Fed's choice of the money supply _____ the nominal interest rate.

determines

The opportunity cost of holding money is the:

Nominal interest rate

The decision about the forms in which to hold one's wealth is called the

portfolio allocation decision

Part of the cost of holding money is that it typically yields a _____ rate of return than stocks and bonds.

lower

The amount of wealth an individual chooses to hold in the form of money is:

The individual's demand for money

Since 1960, the amount of money people hold in the form of cash and checking account balances (M1) has _____.

decreased

As the nominal interest rate rises, the quantity of money demanded _____.

falls

If real GDP increases, we would expect the demand for money to _____.

increase

Increases in the price level _____ the demand for money.

increases

The money demand curve shows the relationship between the _____ and the aggregate quantity of money demanded.

nominal interest rate

The money demand curve slopes _____ because as the nominal interest rate increases, the opportunity cost of holding money _____.

downward, increases

When the nominal interest rate falls, the quantity of money demanded will _____.

increase

The money demand curve will shift to the left if the real price level _____.

falls

As the nominal interest rate decreases, the opportunity cost of holding money _____, leading the money demand curve to slope _____.

decreases, downward

As the nominal interest rate rises, the quantity of money demanded _____.

falls. Reason: As the nominal interest rate rises, the opportunity cost of holding money rises, so that the quantity of money demanded falls.

When the nominal interest rate falls, the quantity of money demanded will _____.

Increase Reason: As the nominal interest rate falls, so does the opportunity cost of holding money, so the quantity of money demanded will increase.

The money demand curve will SHIFT to the left if:

Real GDP decreases

If the nominal interest rate increases, will it SHIFT the demand curve?

No. Reason: If the nominal interest rate increases, the quantity of money demanded will fall, but this is represented by a movement along (rather than a shift in) the money demand curve.

Factors that increase the benefit to holding money will _____ the demand for money and shift the money demand curve to the _____.

increase and to the right

As the nominal interest rate decreases, the opportunity cost of holding money _____, leading the money demand curve to slope _____.

decreases, downward

Which of the following will shift the money demand curve to the right?

An increase in the price level An increase in real income

Equilibrium in the market for money occurs at the _____ that equates the quantity of money supplied with the quantity of money demanded.

nominal interest rate

The nominal interest rate will fall if the quantity of money demanded is _____ the quantity of money supplied.

less than

In order to reduce the prevailing interest rate, the Fed ______.

buys government bonds increases the money supply

The quantity of money supplied is:

fixed and determined by the central bank

If the quantity of money demanded is greater than the quantity of money supplied, then the nominal interest rate will _____.

rise

Which of the following will SHIFT the money demand curve to the right?

An increase in real income An increase in the price level

The federal funds rate is the rate of interest that:

Banks charge each other for very short term loans

The federal funds rate is closely watched by the public, politicians, the media and the financial markets because it is a strong indicator of the Fed's plans for _____.

monetary policy

By changing the federal funds rate, the Fed is able to influence interest rates throughout the economy because there is a tendency for

all interest rates to move in the same direction

If i denotes the nominal interest rate and p denotes the rate of inflation, then the real interest rate is given by:

i - p

The Fed can influence the real interest rate by changing the nominal interest rate because inflation changes _____ in response to changes in policy or economic conditions.

slowly

To ______ the federal funds rate, the Fed conducts open-market purchases.

increase

If the Fed wants to lower the federal funds rate, it conducts open-market _____

purchases

A higher real interest rate discourages firms from making

capital

At any given level of output, consumption spending __________ and planned investment spending ________ when the real interest rate decreases.

increases, increases

Because _____ responds slowly to changes in policy or economic conditions, the Fed can influence the real interest rate by changing the nominal interest rate.

inflation

When the economy faces a condition where it is overheating, the Fed will _________ real interest rates

Raises

Inflation tends to lower stock prices because financial investors know that the Fed is likely to ______ interest rates in a attempt to _____ planned aggregate expenditure.

increase, lower

In graph form, with real interest on the vertical axis and the inflation rate on the horizontal axis, what does the Fed's policy reaction function look like?

upward sloping

If the Fed's policy reaction function equals r = 0.03 + π, where r is the real interest rate and π is the inflation rate, if the real rate of interest is set at 4 percent, then the rate of inflation must be

1 percent

In the short-run, if the Federal Reserve increases interest rates, then consumption and investment ______, planned aggregate expenditure ______, and short-run equilibrium output _______.

decreases, decreases, decreases In the short run, increased interest rates drive down consumption, investment, and planned aggregate expenditures. This, in turn, reduces short-run equilibrium output.