This Document Contains Chapters 14 to 15 Chapter 14 The Money Supply Process 14.1 Three Players in the Money Supply Process 1) The government agency that oversees the banking system and is responsible for the conduct of monetary policy in the United States is A) the Federal Reserve System. B) the United States Treasury. C) the U.S. Gold Commission. D) the House of Representatives. Answer: A 2) Individuals that lend funds to a bank by opening a checking account are called A) policyholders. B) partners. C) depositors. D) debt holders. Answer: C 3) The three players in the money supply process include A) banks, depositors, and the U.S. Treasury. B) banks, depositors, and borrowers. C) banks, depositors, and the central bank. D) banks, borrowers, and the central bank. Answer: C 4) Of the three players in the money supply process, most observers agree that the most important player is A) the United States Treasury. B) the Federal Reserve System. C) the FDIC. D) the Office of Thrift Supervision. Answer: B 14.2 The Fed's Balance Sheet 1) Both ________ and ________ are Federal Reserve assets. A) currency in circulation; reserves B) currency in circulation; government securities C) government securities; discount loans D) government securities; reserves Answer: C 2) The monetary liabilities of the Federal Reserve include A) government securities and discount loans. B) currency in circulation and reserves. C) government securities and reserves. D) currency in circulation and discount loans. Answer: B 3) Both ________ and ________ are monetary liabilities of the Fed. A) government securities; discount loans B) currency in circulation; reserves C) government securities; reserves D) currency in circulation; discount loans Answer: B 4) The sum of the Fed's monetary liabilities and the U.S. Treasury's monetary liabilities is called A) the money supply. B) currency in circulation. C) bank reserves. D) the monetary base. Answer: D 5) The monetary base consists of A) currency in circulation and Federal Reserve notes. B) currency in circulation and the U.S. Treasury's monetary liabilities. C) currency in circulation and reserves. D) reserves and Federal Reserve Notes. Answer: C 6) Total reserves minus bank deposits with the Fed equals A) vault cash. B) excess reserves. C) required reserves. D) currency in circulation. Answer: A 7) Reserves are equal to the sum of A) required reserves and excess reserves. B) required reserves and vault cash reserves. C) excess reserves and vault cash reserves. D) vault cash reserves and total reserves. Answer: A 8) Total reserves are the sum of ________ and ________. A) excess reserves; borrowed reserves B) required reserves; currency in circulation C) vault cash; excess reserves D) excess reserves; required reserves Answer: D 9) Excess reserves are equal to A) total reserves minus discount loans. B) vault cash plus deposits with Federal Reserve banks minus required reserves. C) vault cash minus required reserves. D) deposits with the Fed minus vault cash plus required reserves. Answer: B 10) Total Reserves minus vault cash equals A) bank deposits with the Fed. B) excess reserves. C) required reserves. D) currency in circulation. Answer: A 11) The amount of deposits that banks must hold in reserve is A) excess reserves. B) required reserves. C) total reserves. D) vault cash. Answer: B 12) The percentage of deposits that banks must hold in reserve is the A) excess reserve ratio. B) required reserve ratio. C) total reserve ratio. D) currency ratio. Answer: B 13) Suppose that from a new checkable deposit, First National Bank holds two million dollars in vault cash, eight million dollars on deposit with the Federal Reserve, and one million dollars in required reserves. Given this information, we can say First National Bank has ________ million dollars in excess reserves. A) three B) nine C) ten D) eleven Answer: B 14) Suppose that from a new checkable deposit, First National Bank holds two million dollars in vault cash, eight million dollars on deposit with the Federal Reserve, and one million dollars in required reserves. Given this information, we can say First National Bank faces a required reserve ratio of ________ percent. A) ten B) twenty C) eighty D) ninety Answer: A 15) Suppose that from a new checkable deposit, First National Bank holds two million dollars in vault cash, eight million dollars on deposit with the Federal Reserve, and nine million dollars in excess reserves. Given this information, we can say First National Bank has ________ million dollars in required reserves. A) one B) two C) eight D) ten Answer: A 16) Suppose that from a new checkable deposit, First National Bank holds two million dollars in vault cash, eight million dollars on deposit with the Federal Reserve, and nine million dollars in excess reserves. Given this information, we can say First National Bank faces a required reserve ratio of ________ percent. A) ten B) twenty C) eighty D) ninety Answer: A 17) Suppose that from a new checkable deposit, First National Bank holds eight million dollars on deposit with the Federal Reserve, one million dollars in required reserves, and faces a required reserve ratio of ten percent. Given this information, we can say First National Bank has ________ million dollars in excess reserves. A) two B) eight C) nine D) ten Answer: C 18) Suppose that from a new checkable deposit, First National Bank holds eight million dollars on deposit with the Federal Reserve, one million dollars in required reserves, and faces a required reserve ratio of ten percent. Given this information, we can say First National Bank has ________ million dollars in vault cash. A) two B) eight C) nine D) ten Answer: A 19) Suppose that from a new checkable deposit, First National Bank holds two million dollars in vault cash, nine million dollars in excess reserves, and faces a required reserve ratio of ten percent. Given this information, we can say First National Bank has ________ million dollars in required reserves. A) one B) two C) eight D) ten Answer: A 20) Suppose that from a new checkable deposit, First National Bank holds two million dollars in vault cash, nine million dollars in excess reserves, and faces a required reserve ratio of ten percent. Given this information, we can say First National Bank has ________ million dollars on deposit with the Federal Reserve. A) one B) two C) eight D) ten Answer: C 21) Suppose that from a new checkable deposit, First National Bank holds two million dollars in vault cash, one million dollars in required reserves, and faces a required reserve ratio of ten percent. Given this information, we can say First National Bank has ________ million dollars in excess reserves. A) one B) two C) nine D) ten Answer: C 22) Suppose that from a new checkable deposit, First National Bank holds two million dollars in vault cash, one million dollars in required reserves, and faces a required reserve ratio of ten percent. Given this information, we can say First National Bank has ________ million dollars on deposit with the Federal Reserve. A) one B) two C) eight D) ten Answer: C 23) Suppose that from a new checkable deposit, First National Bank holds eight million dollars on deposit with the Federal Reserve, nine million dollars in excess reserves, and faces a required reserve ratio of ten percent. Given this information, we can say First National Bank has ________ million dollars in required reserves. A) one B) two C) nine D) ten Answer: A 24) Suppose that from a new checkable deposit, First National Bank holds eight million dollars on deposit with the Federal Reserve, nine million dollars in excess reserves, and faces a required reserve ratio of ten percent. Given this information, we can say First National Bank has ________ million dollars in vault cash. A) one B) two C) nine D) ten Answer: B 25) The interest rate the Fed charges banks borrowing from the Fed is the A) federal funds rate. B) Treasury bill rate. C) discount rate. D) prime rate. Answer: C 26) When banks borrow money from the Federal Reserve, these funds are called A) federal funds. B) discount loans. C) federal loans. D) Treasury funds. Answer: B 14.3 Control of the Monetary Base 1) The monetary base minus currency in circulation equals A) reserves. B) the borrowed base. C) the nonborrowed base. D) discount loans. Answer: A 2) The monetary base minus reserves equals A) currency in circulation. B) the borrowed base. C) the nonborrowed base. D) discount loans. Answer: A 3) High-powered money minus reserves equals A) reserves. B) currency in circulation. C) the monetary base. D) the nonborrowed base. Answer: B 4) High-powered money minus currency in circulation equals A) reserves. B) the borrowed base. C) the nonborrowed base. D) discount loans. Answer: A 5) Purchases and sales of government securities by the Federal Reserve are called A) discount loans. B) federal fund transfers. C) open market operations. D) swap transactions. Answer: C 6) When the Federal Reserve purchases a government bond from a bank, reserves in the banking system ________ and the monetary base ________, everything else held constant. A) increase; increases B) increase; decreases C) decrease; increases D) decrease; decreases Answer: A 7) When the Federal Reserve sells a government bond to a bank, reserves in the banking system ________ and the monetary base ________, everything else held constant. A) increase; increases B) increase; decreases C) decrease; increases D) decrease; decreases Answer: D 8) When a bank sells a government bond to the Federal Reserve, reserves in the banking system ________ and the monetary base ________, everything else held constant. A) increase; increases B) increase; decreases C) decrease; increases D) decrease; decreases Answer: A 9) When a bank buys a government bond from the Federal Reserve, reserves in the banking system ________ and the monetary base ________, everything else held constant. A) increase; increases B) increase; decreases C) decrease; increases D) decrease; decreases Answer: D 10) When the Fed buys $100 worth of bonds from First National Bank, reserves in the banking system A) increase by $100. B) increase by more than $100. C) decrease by $100. D) decrease by more than $100. Answer: A 11) When the Fed sells $100 worth of bonds to First National Bank, reserves in the banking system A) increase by $100. B) increase by more than $100. C) decrease by $100. D) decrease by more than $100. Answer: C 12) If a person selling bonds to the Fed cashes the Fed's check, then reserves ________ and currency in circulation ________, everything else held constant. A) remain unchanged; declines B) remain unchanged; increases C) decline; remains unchanged D) increase; remains unchanged Answer: B 13) The effect of an open market purchase on reserves differs depending on how the seller of the bonds keeps the proceeds. If the proceeds are kept in ________, the open market purchase has no effect on reserves; if the proceeds are kept as ________, reserves increase by the amount of the open market purchase. A) deposits; deposits B) deposits; currency C) currency; deposits D) currency; currency Answer: C 14) The effect of an open market purchase on reserves differs depending on how the seller of the bonds keeps the proceeds. If the proceeds are kept in currency, the open market purchase ________ reserves; if the proceeds are kept as deposits, the open market purchase ________ reserves. A) has no effect on; has no effect on B) has no effect on; increases C) increases; has no effect on D) decreases; increases Answer: B 15) When an individual sells a $100 bond to the Fed, she may either deposit the check she receives or cash it for currency. In both cases A) reserves increase. B) high-powered money increases. C) reserves decrease. D) high-powered money decreases. Answer: B 16) If a member of the nonbank public sells a government bond to the Federal Reserve in exchange for currency, the monetary base will ________, but ________. A) remain unchanged; reserves will fall B) remain unchanged; reserves will rise C) rise; currency in circulation will remain unchanged D) rise; reserves will remain unchanged Answer: D 17) If a member of the nonbank public purchases a government bond from the Federal Reserve in exchange for currency, the monetary base will ________, but reserves will ________. A) remain unchanged; rise B) remain unchanged; fall C) rise; remain unchanged D) fall; remain unchanged Answer: D 18) For which of the following is the change in reserves necessarily different from the change in the monetary base? A) Open market purchases from a bank B) Open market purchases from an individual who deposits the check in a bank C) Open market purchases from an individual who cashes the check D) Open market sale to a bank Answer: C 19) When a member of the nonbank public withdraws currency from her bank account, A) both the monetary base and bank reserves fall. B) both the monetary base and bank reserves rise. C) the monetary base falls, but bank reserves remain unchanged. D) bank reserves fall, but the monetary base remains unchanged. Answer: D 20) When a member of the nonbank public deposits currency into her bank account, A) both the monetary base and bank reserves fall. B) both the monetary base and bank reserves rise. C) the monetary base falls, but bank reserves remain unchanged. D) bank reserves rise, but the monetary base remains unchanged. Answer: D 21) When the Fed extends a $100 discount loan to the First National Bank, reserves in the banking system A) increase by $100. B) increase by more than $100. C) decrease by $100. D) decrease by more than $100. Answer: A 22) All else the same, when the Fed calls in a $100 discount loan previously extended to the First National Bank, reserves in the banking system A) increase by $100. B) increase by more than $100. C) decrease by $100. D) decrease by more than $100. Answer: C 23) When the Federal Reserve extends a discount loan to a bank, the monetary base ________ and reserves ________. A) remains unchanged; decrease B) remains unchanged; increase C) increases; increase D) increases; remain unchanged Answer: C 24) When the Federal Reserve calls in a discount loan from a bank, the monetary base ________ and reserves ________. A) remains unchanged; decrease B) remains unchanged; increase C) decreases; decrease D) decreases; remains unchanged Answer: C 25) If the Fed decides to reduce bank reserves, it can A) purchase government bonds. B) extend discount loans to banks. C) sell government bonds. D) print more currency. Answer: C 26) There are two ways in which the Fed can provide additional reserves to the banking system: it can ________ government bonds or it can ________ discount loans to commercial banks. A) sell; extend B) sell; call in C) purchase; extend D) purchase; call in Answer: C 27) A decrease in ________ leads to an equal ________ in the monetary base in the short run. A) float; increase B) float; decrease C) Treasury deposits at the Fed; decrease D) discount loans; increase Answer: B 28) The monetary base declines when A) the Fed extends discount loans. B) Treasury deposits at the Fed decrease. C) float increases. D) the Fed sells securities. Answer: D 29) An increase in ________ leads to an equal ________ in the monetary base in the short run. A) float; decrease B) float; increase C) discount loans; decrease D) Treasury deposits at the Fed; increase Answer: B 30) A decrease in ________ leads to an equal ________ in the monetary base in the long run. A) float; increase B) float; decrease C) securities; increase D) securities; decrease Answer: D 31) An increase in ________ leads to an equal ________ in the monetary base in the long run. A) float; increase B) float; decrease C) securities; increase D) securities; decrease Answer: C 32) Suppose a person cashes his payroll check and holds all the funds in the form of currency. Everything else held constant, total reserves in the banking system ________ and the monetary base ________. A) remain unchanged; increases B) decrease; increases C) decrease; remains unchanged D) decrease; decreases Answer: C 33) Suppose your payroll check is directly deposited to your checking account. Everything else held constant, total reserves in the banking system ________ and the monetary base ________. A) remain unchanged; remains unchanged B) remain unchanged; increases C) decrease; increases D) decrease; decreases Answer: A 34) The Fed does not tightly control the monetary base because it does not completely control A) open market purchases. B) open market sales. C) borrowed reserves. D) the discount rate. Answer: C 35) Subtracting borrowed reserves from the monetary base obtains A) reserves. B) high-powered money. C) the nonborrowed monetary base. D) the borrowed monetary base. Answer: C 36) The relationship between borrowed reserves, the nonborrowed monetary base, and the monetary base is A) MB = MBn - BR. B) BR = MBn - MB. C) BR = MB - MBn. D) MB = BR - MBn. Answer: C 37) Explain two ways by which the Federal Reserve System can increase the monetary base. Why is the effect of Federal Reserve actions on bank reserves less exact than the effect on the monetary base? Answer: The Fed can increase the monetary base by purchasing government bonds and by extending discount loans. If the person selling the security chooses to keep the proceeds in currency, bank reserves do not increase. Because the Fed cannot control the distribution of the monetary base between reserves and currency, it has less control over reserves than the base. 14.4 Multiple Deposit Creation: A Simple Model 1) When the Fed supplies the banking system with an extra dollar of reserves, deposits increase by more than one dollar—a process called A) extra deposit creation. B) multiple deposit creation. C) expansionary deposit creation. D) stimulative deposit creation. Answer: B 2) When the Fed supplies the banking system with an extra dollar of reserves, deposits ________ by ________ than one dollar—a process called multiple deposit creation. A) increase; less B) increase; more C) decrease; less D) decrease; more Answer: B 3) If the required reserve ratio is equal to 10 percent, a single bank can increase its loans up to a maximum amount equal to A) its excess reserves. B) 10 times its excess reserves. C) 10 percent of its excess reserves. D) its total reserves. Answer: A 4) In the simple deposit expansion model, if the Fed purchases $100 worth of bonds from a bank that previously had no excess reserves, the bank can now increase its loans by A) $10. B) $100. C) $100 times the reciprocal of the required reserve ratio. D) $100 times the required reserve ratio. Answer: B 5) In the simple deposit expansion model, if the Fed purchases $100 worth of bonds from a bank that previously had no excess reserves, deposits in the banking system can potentially increase by A) $10. B) $100. C) $100 times the reciprocal of the required reserve ratio. D) $100 times the required reserve ratio. Answer: C 6) In the simple deposit expansion model, if the Fed extends a $100 discount loan to a bank that previously had no excess reserves, the bank can now increase its loans by A) $10. B) $100. C) $100 times the reciprocal of the required reserve ratio. D) $100 times the required reserve ratio. Answer: B 7) In the simple deposit expansion model, if the Fed extends a $100 discount loan to a bank that previously had no excess reserves, deposits in the banking system can potentially increase by A) $10. B) $100. C) $100 times the reciprocal of the required reserve ratio. D) $100 times the required reserve ratio. Answer: C 8) The formula for the simple deposit multiplier can be expressed as A) △R = 1/r × △T B) △D = 1/r × △R C) △r = 1/R × △T D) △R = 1/r × △D Answer: B 9) In the simple model of multiple deposit creation in which banks do not hold excess reserves, the increase in checkable deposits equals the product of the change in excess reserves and the A) reciprocal of the excess reserve ratio. B) simple deposit expansion multiplier. C) reciprocal of the simple deposit multiplier. D) discount rate. Answer: B 10) The simple deposit multiplier can be expressed as the ratio of the A) change in reserves in the banking system divided by the change in deposits. B) change in deposits divided by the change in reserves in the banking system. C) required reserve ratio divided by the change in reserves in the banking system. D) change in deposits divided by the required reserve ratio. Answer: B 11) If reserves in the banking system increase by $100, then checkable deposits will increase by $1000 in the simple model of deposit creation when the required reserve ratio is A) 0.01. B) 0.10. C) 0.05. D) 0.20. Answer: B 12) If reserves in the banking system increase by $100, then checkable deposits will increase by $500 in the simple model of deposit creation when the required reserve ratio is A) 0.01. B) 0.10. C) 0.05. D) 0.20 Answer: D 13) If the required reserve ratio is 10 percent, the simple deposit multiplier is A) 5.0. B) 2.5. C) 100.0. D) 10.0 Answer: D 14) If the required reserve ratio is 15 percent, the simple deposit multiplier is A) 15.0. B) 1.5. C) 6.67. D) 3.33. Answer: C 15) If the required reserve ratio is 20 percent, the simple deposit multiplier is A) 5.0. B) 2.5. C) 4.0. D) 10.0. Answer: A 16) If the required reserve ratio is 25 percent, the simple deposit multiplier is A) 5.0. B) 2.5. C) 4.0. D) 10.0. Answer: C 17) A simple deposit multiplier equal to one implies a required reserve ratio equal to A) 100 percent. B) 50 percent. C) 25 percent. D) 0 percent. Answer: A 18) A simple deposit multiplier equal to two implies a required reserve ratio equal to A) 100 percent. B) 50 percent. C) 25 percent. D) 0 percent. Answer: B 19) A simple deposit multiplier equal to four implies a required reserve ratio equal to A) 100 percent. B) 50 percent. C) 25 percent. D) 0 percent. Answer: C 20) In the simple deposit expansion model, if the banking system has excess reserves of $75, and the required reserve ratio is 20%, the potential expansion of checkable deposits is A) $75. B) $750. C) $37.50. D) $375. Answer: D 21) In the simple deposit expansion model, if the required reserve ratio is 20 percent and the Fed increases reserves by $100, checkable deposits can potentially expand by A) $100. B) $250. C) $500. D) $1,000. Answer: C 22) In the simple deposit expansion model, if the required reserve ratio is 10 percent and the Fed increases reserves by $100, checkable deposits can potentially expand by A) $100. B) $250. C) $500. D) $1,000. Answer: D 23) In the simple deposit expansion model, an expansion in checkable deposits of $1,000 when the required reserve ratio is equal to 20 percent implies that the Fed A) sold $200 in government bonds. B) sold $500 in government bonds. C) purchased $200 in government bonds. D) purchased $500 in government bonds. Answer: C 24) In the simple deposit expansion model, an expansion in checkable deposits of $1,000 when the required reserve ratio is equal to 10 percent implies that the Fed A) sold $1,000 in government bonds. B) sold $100 in government bonds. C) purchased $1000 in government bonds. D) purchased $100 in government bonds. Answer: D 25) In the simple deposit expansion model, a decline in checkable deposits of $1,000 when the required reserve ratio is equal to 20 percent implies that the Fed A) sold $200 in government bonds. B) sold $500 in government bonds. C) purchased $200 in government bonds. D) purchased $500 in government bonds. Answer: A 26) In the simple deposit expansion model, a decline in checkable deposits of $1,000 when the required reserve ratio is equal to 10 percent implies that the Fed A) sold $1,000 in government bonds. B) sold $100 in government bonds. C) purchased $1,000 in government bonds. D) purchased $100 in government bonds. Answer: B 27) In the simple deposit expansion model, a decline in checkable deposits of $500 when the required reserve ratio is equal to 10 percent implies that the Fed A) sold $500 in government bonds. B) sold $50 in government bonds. C) purchased $50 in government bonds. D) purchased $500 in government bonds. Answer: B 28) In the simple deposit expansion model, a decline in checkable deposits of $500 when the required reserve ratio is equal to 20 percent implies that the Fed A) sold $250 in government bonds. B) sold $100 in government bonds. C) sold $50 in government bonds. D) purchased $100 in government bonds. Answer: B 29) If reserves in the banking system increase by $100, then checkable deposits will increase by $400 in the simple model of deposit creation when the required reserve ratio is A) 0.01. B) 0.10. C) 0.20. D) 0.25. Answer: D 30) If reserves in the banking system increase by $100, then checkable deposits will increase by $667 in the simple model of deposit creation when the required reserve ratio is A) 0.01. B) 0.05. C) 0.15. D) 0.20. Answer: C 31) If reserves in the banking system increase by $100, then checkable deposits will increase by $100 in the simple model of deposit creation when the required reserve ratio is A) 0.01. B) 0.10. C) 0.20. D) 1.00. Answer: D 32) If reserves in the banking system increase by $100, then checkable deposits will increase by $2,000 in the simple model of deposit creation when the required reserve ratio is A) 0.01. B) 0.05. C) 0.10. D) 0.20. Answer: B 33) If reserves in the banking system increase by $200, then checkable deposits will increase by $500 in the simple model of deposit creation when the required reserve ratio is A) 0.04. B) 0.25. C) 0.40. D) 0.50. Answer: C 34) If a bank has excess reserves of $10,000 and demand deposit liabilities of $80,000, and if the reserve requirement is 20 percent, then the bank has actual reserves of A) $16,000. B) $20,000. C) $26,000. D) $36,000. Answer: C 35) If a bank has excess reserves of $20,000 and demand deposit liabilities of $80,000, and if the reserve requirement is 20 percent, then the bank has total reserves of A) $16,000. B) $20,000. C) $26,000. D) $36,000. Answer: D 36) If a bank has excess reserves of $5,000 and demand deposit liabilities of $80,000, and if the reserve requirement is 20 percent, then the bank has actual reserves of A) $11,000. B) $20,000. C) $21,000. D) $26,000. Answer: C 37) If a bank has excess reserves of $15,000 and demand deposit liabilities of $80,000, and if the reserve requirement is 20 percent, then the bank has total reserves of A) $11,000. B) $21,000. C) $31,000. D) $41,000. Answer: C 38) If a bank has excess reserves of $4,000 and demand deposit liabilities of $100,000, and if the reserve requirement is 15 percent, then the bank has actual reserves of A) $17,000. B) $19,000. C) $24,000. D) $29,000. Answer: B 39) If a bank has excess reserves of $4,000 and demand deposit liabilities of $100,000, and if the reserve requirement is 10 percent, then the bank has actual reserves of A) $14,000. B) $19,000. C) $24,000. D) $29,000. Answer: A 40) If a bank has excess reserves of $7,000 and demand deposit liabilities of $100,000, and if the reserve requirement is 15 percent, then the bank has actual reserves of A) $17,000. B) $22,000. C) $27,000. D) $29,000. Answer: B 41) If a bank has excess reserves of $7,000 and demand deposit liabilities of $100,000, and if the reserve requirement is 10 percent, then the bank has actual reserves of A) $14,000. B) $17,000. C) $22,000. D) $27,000. Answer: B 42) A bank has excess reserves of $6,000 and demand deposit liabilities of $100,000 when the required reserve ratio is 20 percent. If the reserve ratio is raised to 25 percent, the bank's excess reserves will be A) -$5,000. B) -$1,000. C) $1,000. D) $5,000. Answer: C 43) A bank has excess reserves of $4,000 and demand deposit liabilities of $100,000 when the required reserve ratio is 20 percent. If the reserve ratio is raised to 25 percent, the bank's excess reserves will be A) -$5,000. B) -$1,000. C) $1,000. D) $5,000. Answer: B 44) A bank has excess reserves of $10,000 and demand deposit liabilities of $100,000 when the required reserve ratio is 20 percent. If the reserve ratio is raised to 25 percent, the bank's excess reserves will be A) -$5,000. B) -$1,000. C) $1,000. D) $5,000. Answer: D 45) A bank has no excess reserves and demand deposit liabilities of $100,000 when the required reserve ratio is 20 percent. If the reserve ratio is raised to 25 percent, the bank's excess reserves will now be A) -$5,000. B) -$1,000. C) $1,000. D) $5,000. Answer: A 46) A bank has excess reserves of $1,000 and demand deposit liabilities of $80,000 when the reserve requirement is 20 percent. If the reserve requirement is lowered to 10 percent, the bank's excess reserves will be A) $1,000. B) $8,000. C) $9,000. D) $17,000. Answer: C 47) A bank has excess reserves of $1,000 and demand deposit liabilities of $80,000 when the reserve requirement is 25 percent. If the reserve requirement is lowered to 20 percent, the bank's excess reserves will be A) $1,000. B) $5,000. C) $8,000. D) $9,000. Answer: B 48) Decisions by depositors to increase their holdings of ________, or of banks to hold ________ will result in a smaller expansion of deposits than the simple model predicts. A) deposits; required reserves B) deposits; excess reserves C) currency; required reserves D) currency; excess reserves Answer: D 49) Decisions by depositors to increase their holdings of ________, or of banks to hold excess reserves will result in a ________ expansion of deposits than the simple model predicts. A) deposits; smaller B) deposits; larger C) currency; smaller D) currency; larger Answer: C 50) Decisions by ________ about their holdings of currency and by ________ about their holdings of excess reserves affect the money supply. A) borrowers; depositors B) banks; depositors C) depositors; borrowers D) depositors; banks Answer: D 51) Assume that no banks hold excess reserves, and the public holds no currency. If a bank sells a $100 security to the Fed, explain what happens to this bank and two additional steps in the deposit expansion process, assuming a 10% reserve requirement. How much do deposits and loans increase for the banking system when the process is completed? Answer: Bank A first changes a security for reserves, and then lends the reserves, creating loans. It receives $100 in reserves from the sale of securities. Since all of these reserve will be excess reserves (there was no change in checkable deposits), the bank will loan out all $100. The $100 will then be deposited into Bank B. This bank now has a change in reserves of $100, of which $90 is excess reserves. Bank B will loan out this $90, which will be deposited into Bank C. Bank C now has an increase in reserves of $90, $81 of which is excess reserves. Bank C will loan out this $81 dollars and the process will continue until there are no more excess reserves in the banking system. For the banking system, both loans and deposits increase by $1000. 52) Explain two reasons why the Fed does not have complete control over the level of bank deposits and loans. Explain how a change in either factor affects the deposit expansion process. Answer: The Fed does not completely control the level of bank deposits and loans because banks can hold excess reserves and the public can change its currency holdings. A change in either factor changes the deposit expansion process. An increase in either excess reserves or currency reduces the amount by which deposits and loans are increased. 53) Explain why the simple deposit multiplier overstates the true deposit multiplier. Answer: The simple model ignores the role banks and their customers play in the creation process. The bank's customers can decide to hold currency and the bank can decide to hold excess reserves. Both of these will restrict the banking system's ability to create deposits. Thus, the true multiplier is less than the prediction of the simple deposit multiplier. 14.5 Factors That Determine the Money Supply 1) An increase in the nonborrowed monetary base, everything else held constant, will cause A) the money supply to fall. B) the money supply to rise. C) no change in the money supply. D) demand deposits to fall. Answer: B 2) The money supply is ________ related to the nonborrowed monetary base, and ________ related to the level of borrowed reserves. A) positively; negatively B) negatively; not C) positively; positively D) negatively; negatively Answer: C 3) The amount of borrowed reserves is ________ related to the discount rate, and is ________ related to the market interest rate. A) negatively; negatively B) negatively; positively C) positively; negatively D) positively; positively Answer: B 4) A ________ in market interest rates relative to the discount rate will cause discount borrowing to ________. A) fall; increase B) rise; decrease C) rise; increase D) fall; remain unchanged Answer: C 5) Everything else held constant, an increase in currency holdings will cause A) the money supply to rise. B) the money supply to remain constant. C) the money supply to fall. D) checkable deposits to rise. Answer: C 6) Everything else held constant, a decrease in holdings of excess reserves will mean A) a decrease in the money supply. B) an increase in the money supply. C) a decrease in checkable deposits. D) an increase in discount loans. Answer: B 14.6 Overview of the Money Supply Process 1) In the model of the money supply process, the Federal Reserve's role in influencing the money supply is represented by A) both the required reserve ratio and the market interest rate. B) the required reserve ratio, nonborrowed reserves, borrowed reserves, and the market interest rate. C) only borrowed reserves. D) only nonborrowed reserves. Answer: B 2) In the model of the money supply process, the depositor's role in influencing the money supply is represented by A) only the currency ratio. B) both the currency ratio and excess reserve ratio. C) the currency ratio, excess reserve ratio, and the market interest rate. D) only the market interest rate. Answer: C 3) In the model of the money supply process, the bank's role in influencing the money supply process is represented by A) only the excess reserve ratio. B) both the excess reserve ratio and the market interest rate. C) only the currency ratio. D) only borrowed reserves. Answer: B 14.7 The Money Multiplier 1) Models describing the determination of the money supply and the Fed's role in this process normally focus on ________ rather than ________, since Fed actions have a more predictable effect on the former. A) reserves; the monetary base B) reserves; high-powered money C) the monetary base; high-powered money D) the monetary base; reserves Answer: D 2) The Fed can exert more precise control over ________ than it can over ________. A) high-powered money; reserves B) high-powered money; the monetary base C) the monetary base; high-powered money D) reserves; high-powered money Answer: A 3) The ratio that relates the change in the money supply to a given change in the monetary base is called the A) money multiplier. B) required reserve ratio. C) deposit ratio. D) discount rate. Answer: A 4) The formula linking the money supply to the monetary base is A) M = m/MB. B) M = m × MB. C) m = M × MB. D) MB = M × m. E) M = m + MB. Answer: B 5) The variable that reflects the effect on the money supply of changes in factors other than the monetary base is the A) currency-checkable deposits ratio. B) required reserve ratio. C) money multiplier. D) nonborrowed base. Answer: C 6) An assumption in the model of the money supply process is that the desired levels of currency and excess reserves A) are given as constants. B) grow proportionally with checkable deposits. C) grow proportionally with high-powered money. D) grow proportionally over time. Answer: B 7) The total amount of reserves in the banking system is equal to the ________ required reserves and excess reserves. A) sum of B) difference between C) product of D) ratio between Answer: A 8) The total amount of required reserves in the banking system is equal to the ________ the required reserve ratio and checkable deposits. A) sum of B) difference between C) product of D) ratio between Answer: C 9) Since the Federal Reserve sets the required reserve ratio to less than one, one dollar of reserves can support ________ of checkable deposits. A) exactly one dollar B) less than one dollar C) more than one dollar D) exactly twice the amount Answer: C 10) The equation that shows the amount of the monetary base needed to support existing levels of checkable deposits, excess reserves, and currency is A) MB = (r × D) + ER + C. B) MB = (r + D) + ER + C. C) MB = r/D + ER + C. D) MB = (r × D) - ER - C. Answer: A 11) An increase in the monetary base that goes into ________ is not multiplied, while an increase that goes into ________ is multiplied. A) deposits; currency B) excess reserves; currency C) currency; excess reserves D) currency; deposits Answer: D 12) An increase in the monetary base that goes into currency is ________, while an increase that goes into deposits is ________. A) multiplied; multiplied B) not multiplied; multiplied C) multiplied; not multiplied D) not multiplied; not multiplied Answer: B 13) If the Fed injects reserves into the banking system and they are held as excess reserves, then the money supply A) increases by only the initial increase in reserves. B) increases by only one-half the initial increase in reserves. C) increases by a multiple of the initial increase in reserves. D) does not change. Answer: D 14) If the Fed injects reserves into the banking system and they are held as excess reserves, then the monetary base ________ and the money supply ________. A) remains unchanged; remains unchanged B) remains unchanged; increases C) increases; increases D) increases; remains unchanged Answer: D 15) The formula that links checkable deposits to the monetary base is Answer: E 16) The formula that links checkable deposits to the money supply is Answer: C 17) The formula for the M1 money multiplier is A) m = (1 + c)/(r + e + c). B) M = 1/(r + e + c). C) M = (1 + c)/(r + e + c). D) m = [1/(r + e + c)] × MB. Answer: A 18) If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $800 billion, and excess reserves total $0.8 billion, then the money supply is ________ billion. A) $8000 B) $1200 C) $1200.8 D) $8400 Answer: B 19) If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $800 billion, and excess reserves total $0.8 billion, then the M1 money multiplier is A) 2.5. B) 1.67. C) 2.0. D) 0.601. Answer: A 20) If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $800 billion, and excess reserves total $0.8 billion, then the currency ratio is A) 0.25. B) 0.50. C) 0.40. D) 0.05. Answer: B 21) If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $800 billion, and excess reserves total $0.8 billion, then the excess reserves-checkable deposit ratio is A) 0.001. B) 0.10. C) 0.01. D) 0.05. Answer: A 22) If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $800 billion, and excess reserves total $0.8 billion, then the monetary base is A) $480 billion. B) $480.8 billion. C) $80 billion. D) $80.8 billion. Answer: B 23) If the required reserve ratio is 15 percent, currency in circulation is $400 billion, checkable deposits are $800 billion, and excess reserves total $0.8 billion, then the M1 money multiplier is A) 2.5. B) 1.67. C) 2.3. D) 0.651. Answer: C 24) If the required reserve ratio is 5 percent, currency in circulation is $400 billion, checkable deposits are $800 billion, and excess reserves total $0.8 billion, then the M1 money multiplier is A) 2.5. B) 2.72. C) 2.3. D) 0.551. Answer: B 25) If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $1000 billion, and excess reserves total $1 billion, then the money supply is ________ billion. A) $10,000 B) $4000 C) $1400 D) $10,400 Answer: C 26) If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $1000 billion, and excess reserves total $1 billion, then the M1 money multiplier is A) 2.5. B) 2.8. C) 2.0. D) 0.7. Answer: B 27) If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $1000 billion, and excess reserves total $1 billion, then the currency ratio is A) 0.25. B) 0.50. C) 0.40. D) 0.05. Answer: C 28) If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $1000 billion, and excess reserves total $1 billion, then the excess reserves-checkable deposit ratio is A) 0.01. B) 0.10. C) 0.001. D) 0.05. Answer: C 29) If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $1000 billion, and excess reserves total $1 billion, then the monetary base is A) $400 billion. B) $401 billion. C) $500 billion. D) $501 billion. Answer: D 30) If the required reserve ratio is 15 percent, currency in circulation is $400 billion, checkable deposits are $1000 billion, and excess reserves total $1 billion, then the M1 money multiplier is A) 2.54. B) 2.67. C) 2.35. D) 0.551. Answer: A 31) If the required reserve ratio is one-third, currency in circulation is $300 billion, and checkable deposits are $900 billion, then the money supply is ________ billion. A) $2700 B) $3000 C) $1200 D) $1800 Answer: C 32) If the required reserve ratio is one-third, currency in circulation is $300 billion, and checkable deposits are $900 billion, then the M1 money multiplier is A) 2.5. B) 2.8. C) 2.0. D) 0.67. Answer: C 33) If the required reserve ratio is one-third, currency in circulation is $300 billion, and checkable deposits are $900 billion, then the currency ratio is A) 0.25. B) 0.33. C) 0.67. D) 0.375. Answer: B 34) If the required reserve ratio is one-third, currency in circulation is $300 billion, and checkable deposits are $900 billion, then the level of excess reserves in the banking system is A) $300 billion. B) $30 billion. C) $3 billion. D) 0. Answer: D 35) If the required reserve ratio is one-third, currency in circulation is $300 billion, and checkable deposits are $900 billion, then the monetary base is A) $300 billion. B) $600 billion. C) $333 billion. D) $667 billion. Answer: B 36) Everything else held constant, an increase in the required reserve ratio on checkable deposits will cause A) the money supply to rise. B) the money supply to remain constant. C) the money supply to fall. D) checkable deposits to rise. Answer: C 37) Everything else held constant, a decrease in the required reserve ratio on checkable deposits will mean A) a decrease in the money supply. B) an increase in the money supply. C) a decrease in checkable deposits. D) an increase in discount loans. Answer: B 38) Everything else hed constant, an increase in the required reserve ratio on checkable deposits causes the M1 money multiplier to ________ and the money supply to ________. A) decrease; increase B) increase; increase C) decrease; decrease D) increase; decrease Answer: C 39) Everything else held constant, a decrease in the required reserve ratio on checkable deposits causes the M1 money multiplier to ________ and the money supply to ________. A) decrease; increase B) increase; increase C) decrease; decrease D) increase; decrease Answer: B 40) Assuming initially that r = 10%, c = 40%, and e = 0, an increase in r to 15% causes the M1 money multiplier to ________, everything else held constant. A) increase from 2.55 to 2.8 B) decrease from 2.8 to 2.55 C) increase from 1.82 to 2 D) decrease from 2 to 1.82 Answer: B 41) Assuming initially that r = 10%, c = 40%, and e = 0, a decrease in r to 5% causes the M1 money multiplier to ________, everything else held constant. A) increase from 2.8 to 3.11 B) decrease from 3.11 to 2.8 C) increase from 2 to 2.22 D) decrease from 2.22 to 2 Answer: A 42) Everything else held constant, an increase in the currency-checkable deposit ratio will mean A) an increase in currency in circulation and an increase in the money supply. B) an increase in money supply but no change in reserves. C) a decrease in the money supply. D) an increase in currency in circulation but no change in the money supply. Answer: C 43) Everything else held constant, a decrease in the currency-checkable deposit ratio will mean A) an increase in currency in circulation and an increase in the money supply. B) an increase in money supply. C) a decrease in the money supply. D) an increase in currency in circulation but no change in the money supply. Answer: B 44) Everything else held constant, an increase in the currency ratio causes the M1 money multiplier to ________ and the money supply to ________. A) decrease; increase B) increase; decrease C) decrease; decrease D) increase; increase Answer: C 45) Everything else held constant, a decrease in the currency ratio causes the M1 money multiplier to ________ and the money supply to ________. A) decrease; increase B) increase; increase C) decrease; decrease D) increase; decrease Answer: B 46) Assuming initially that r = 10%, c = 40%, and e = 0, an increase in c to 50% causes the M1 money multiplier to ________, everything else held constant. A) increase from 2.5 to 2.8 B) decrease from 2.8 to 2.5 C) increase from 2.33 to 2.8 D) decrease from 2.8 to 2.33 Answer: B 47) Assuming initially that r = 10%, c = 40%, and e = 0, an decrease in c to 30% causes the M1 money multiplier to ________, everything else held constant. A) increase from 2.8 to 3.25 B) decrease from 3.25 to 2.8 C) increase from 2.8 to 3.5 D) decrease from 3.5 to 2.8 Answer: A 48) Every thing else held constant, a decrease in the excess reserves ratio causes the M1 money multiplier to ________ and the money supply to ________. A) decrease; increase B) increase; increase C) decrease; decrease D) increase; decrease Answer: B 49) Everything else held constant, an increase in the excess reserves ratio causes the M1 money multiplier to ________ and the money supply to ________. A) decrease; increase B) increase; increase C) decrease; decrease D) increase; decrease Answer: C 50) Assuming initially that r = 15%, c = 40%, and e = 5%, a decrease in e to 0% causes the M1 money multiplier to ________, everything else held constant. A) increase from 2.33 to 2.55 B) decrease from 2.55 to 2.33 C) increase from 1.67 to 1.82 D) decrease from 1.82 to 1.67 Answer: A 51) Assuming initially that r = 15%, c = 40%, and e = 5%, an increase in e to 10% causes the M1 money multiplier to ________, everything else held constant. A) increase from 2.15 to 2.33 B) decrease from 2.33 to 2.15 C) increase from 1.54 to 1.67 D) decrease from 1.67 to 1.54 Answer: B 52) The excess reserves ratio is ________ related to expected deposit outflows, and is ________ related to the market interest rate. A) negatively; negatively B) negatively; positively C) positively; negatively D) positively; positively Answer: C 53) The money supply is ________ related to expected deposit outflows, and is ________ related to the market interest rate. A) negatively; negatively B) negatively; positively C) positively; negatively D) positively; positively Answer: B 54) The money multiplier is A) negatively related to high-powered money. B) positively related to the excess reserves ratio. C) negatively related to the required reserve ratio. D) positively related to holdings of excess reserves. Answer: C 55) Recognizing the distinction between borrowed reserves and the nonborrowed monetary base, the money supply model is specified as A) M = m × (MBn - BR). B) M = m × (MBn + BR). C) M = m + (MBn - BR). D) M = m - (MBn + BR). Answer: B 56) During the bank panics of the Great Depression the currency ratio A) increased sharply. B) decreased sharply. C) increased slightly. D) decreased slightly. Answer: A 57) During the bank panics of the Great Depression the excess reserve ratio A) increased sharply. B) decreased sharply. C) increased slightly. D) decreased slightly. Answer: A 58) In the early 1930s, the currency ratio rose, as did the level of excess reserves. Money supply analysis predicts that, everything else held constant, the money supply should have A) risen. B) fallen. C) remain unchanged. D) either risen, fallen, or remain unchanged. Answer: B 59) Explain the complete formula for the M1 money supply, and explain how changes in required reserves, excess reserves, the currency ratio, the nonborrowed base, and borrowed reserves affect the money supply. Answer: The formula is M = 1 + c/r + e + c × (MBn + BR). The formula indicates that the money supply is the product of the multiplier times the base. Increases in any of the multiplier components, required reserves, r; excess reserves, e; or the currency ratio, c; reduce the multiplier and the money supply. Increases in the nonborrowed base and borrowed reserves both increase the base and the money supply. 60) The monetary base increased by 20% during the contraction of 1929-1933, but the money supply fell by 25%. Explain why this occurred. How can the money supply fall when the base increases? Answer: The banking crisis caused the public to fear for the safety of their deposits, increasing both the currency ratio and bank holdings of excess reserves in anticipation of deposit outflows. Both of these changes reduce the money multiplier and the money supply. In this case, the fall in the multiplier due to increases of currency and excess reserves more than offset the increase in the base, causing the money supply to fall. 14.8 APPENDIX: The Fed's Balance Sheet and the Monetary Base 1) Which is the most important category of Fed assets? A) Securities B) Discount loans C) Gold and SDR certificates D) Cash items in the process of collection Answer: A 2) The two most important categories of assets on the Fed's balance sheet are ________ and ________ because they earn interest. A) discount loans; coins B) securities; discount loans C) gold; coins D) cash items in the process of collection; SDR certificate accounts Answer: B 3) The Fed's holdings of securities consist primarily of ________, but also in the past have included ________. A) Treasury securities; bankers' acceptances B) municipal securities; bankers' acceptances C) bankers' acceptances; Treasury securities D) Treasury securities; municipal securities Answer: A 4) The volume of loans that the Fed makes to banks is affected by the Fed's setting of the interest rate on these loans, called the A) federal funds rate. B) prime rate. C) discount rate. D) interbank rate. Answer: C 5) Special Drawing Rights (SDRs) are issued to governments by the ________ to settle international debts and have replaced ________ in international transactions. A) Federal Reserve System; gold B) Federal Reserve System; dollars C) International Monetary Fund; gold D) International Monetary Fund; dollars Answer: C 6) When the Treasury acquires gold or SDRs, it issues certificates to the ________, which are a claim on the gold or SDRs, and in turn is credited with deposit balances at the ________. A) Federal Reserve System; Fed B) Federal Reserve System; IMF C) International Monetary Fund; Fed D) International Monetary Fund; IMF Answer: A 7) Which of the following are not assets on the Fed's balance sheet? A) Discount loans B) U.S. Treasury deposits C) Cash items in the process of collection D) U.S. Treasury bills Answer: B 8) Which of the following are not assets on the Fed's balance sheet? A) Securities B) Discount loans C) Cash items in the process of collection D) Deferred availability cash items Answer: D 9) Which of the following are not liabilities on the Fed's balance sheet? A) Discount loans B) Bank deposits C) Deferred availability cash items D) U.S. Treasury deposits Answer: A 10) When the Fed purchases artwork to decorate the conference room at the Federal Reserve Bank of Kansas City, A) reserves rise, but the monetary base falls. B) reserves fall. C) currency in circulation falls. D) the monetary base rises. Answer: D 11) A Fed purchase of gold, SDRs, a deposit denominated in a foreign currency or any other asset is just an open market ________ of these assets, ________ the monetary base. A) purchase; raising B) sale; raising C) purchase; lowering D) sale; lowering Answer: A 12) An increase in Treasury deposits at the Fed causes A) the monetary base to increase. B) the monetary base to decrease. C) Fed assets to increase but has no effect on the monetary base. D) Fed assets to decrease but has no effect on the monetary base. Answer: B 13) An increase in U.S. Treasury deposits at the Fed reduces both ________ and the ________. A) reserves; monetary base B) Fed liabilities; money multiplier C) Fed assets; monetary base D) Fed assets; money multiplier Answer: A 14) U.S. Treasury deposits at the Fed are ________ for the Fed but ________ for the Treasury. Thus an increase in U.S. Treasury deposits ________ the monetary base. A) a liability; an asset; increases B) a liability; an asset; decreases C) an asset; a liability; increases D) an asset; a liability; decreases Answer: B 15) An increase in which of the following leads to a decline in the monetary base? A) Float B) Discount loans C) Foreign deposits at the Fed D) SDRs Answer: C 16) Suppose, while cleaning out its closets, a worker at the Federal Reserve bank branch in Memphis discovers a painting of Elvis (medium: acrylic on velvet) that used to grace the walls of the conference room. Suppose further that, at a public auction, the bank sells the painting for $19.95. This sale will cause ________ in the monetary base, everything else held constant. A) an increase of $19.95 B) an increase of more than $19.95 C) a decrease of $19.95 D) a decrease of more than $19.95 Answer: C 17) Suppose the Bank of China permanently decreases its purchases of U.S. government bonds and, instead, holds more dollars on deposit at the Federal Reserve. Everything else held constant, a open market ________ would be the appropriate monetary policy action for the Fed to take to offset the expected ________ in the monetary base in the United States. A) purchase; decrease B) purchase; increase C) sale; decrease D) sale; increase Answer: A 14.9 APPENDIX: The M2 Money Multiplier 1) The equation that represents M2 in the model of the money supply process is A) M2 = C + D. B) M2 = C + D + T - MMF. C) M2 = C + D - T + MMF. D) M2 = C + D + T + MMF. Answer: D 2) In the model of the money supply process for M2, the relationship between checkable deposits and the M2 money supply is represented by Answer: A 3) The M2 money supply is represented by Answer: A 4) The M2 money multiplier is A) negatively related to high-powered money. B) positively related to the time deposit ratio. C) positively related to the required reserve ratio. D) positively related to the excess reserves ratio. Answer: B 5) Everything else held constant, an increase in the currency ratio will mean ________ in the M2 money multiplier and ________ in the M2 money supply. A) an increase; an increase B) an increase; a decrease C) a decrease; an increase D) a decrease; a decrease Answer: D 6) Everything else held constant, a decrease in the currency ratio will mean ________ in the M1 money multiplier and ________ in the M2 money multiplier. A) an increase; an increase B) an increase; a decrease C) a decrease; an increase D) a decrease; a decrease Answer: A 7) Everything else held constant, an increase in the required reserve ratio will mean ________ in the M2 money multiplier and ________ in the M2 money supply. A) an increase; an increase B) an increase; a decrease C) a decrease; an increase D) a decrease; a decrease Answer: D 8) Everything else held constant, an increase in the required reserve ratio will result in ________ in M1 and ________ in M2. A) an increase; an increase B) an increase; a decrease C) a decrease; an increase D) a decrease; a decrease Answer: D 9) Everything else held constant, an increase in the time deposit ratio will mean ________ in the M2 money multiplier and ________ in the M2 money supply. A) an increase; an increase B) an increase; a decrease C) a decrease; an increase D) a decrease; a decrease Answer: A 10) Everything else held constant, an increase in the time deposit ratio will result in ________ in the M1 money multiplier and ________ in the M2 money multiplier. A) an increase; an increase B) no change; an increase C) a decrease; a decrease D) no change; a decrease Answer: B 11) Everything else held constant, an increase in the money market fund ratio will mean ________ in the M2 money multiplier and ________ in the M2 money supply. A) an increase; an increase B) an increase; a decrease C) a decrease; an increase D) a decrease; a decrease Answer: A 12) Everything else held constant, an increase in the money market fund ratio will result in ________ in the M1 money multiplier and ________ in the M2 money multiplier. A) an increase; an increase B) no change; an increase C) a decrease; a decrease D) no change; a decrease Answer: B 13) Everything else held constant, an increase in the excess reserve ratio will mean ________ in the M2 money multiplier and ________ in the M2 money supply. A) an increase; an increase B) an increase; a decrease C) a decrease; an increase D) a decrease; a decrease Answer: D 14) Everything else held constant, an increase in the excess reserve ratio will mean ________ in the M1 money multiplier and ________ in the M2 money multiplier. A) an increase; an increase B) no change; an increase C) a decrease; a decrease D) no change; a decrease Answer: C 14.10 APPENDIX: Explaining the Behavior of the Currency Ratio 1) Factors causing an increase in currency holdings include A) an increase in the interest rates paid on checkable deposits. B) an increase in the cost of acquiring currency. C) a decrease in bank panics. D) an increase in illegal activity. Answer: D 2) Part of the increase in currency holdings in the 1960s and 1970s can be attributed to A) increases in income tax rates. B) the switch from progressive to proportional income taxes. C) the adoption of regressive taxes. D) bracket creep due to inflation and progressive income taxes. Answer: D 3) Everything else held constant, an increase in wealth will cause the holdings of checkable deposits to the holdings of currency to ________ and the currency ratio will ________. A) increase; increase B) increase; decrease C) decrease; increase D) decrease; decrease Answer: B 4) Everything else held constant, an increase in the interest rate paid on checkable deposits will cause ________ in the amount of checkable deposits held relative to currency holdings and ________ in the currency ratio. A) an increase; an increase B) an increase; a decrease C) a decrease; an increase D) a decrease; a decrease Answer: B 5) The increase in the availability of ATM's has caused the cost of acquiring currency to ________ which will cause the currency ratio to ________, everything else held constant. A) increase; increase B) increase; decrease C) decrease; increase D) decrease; decrease Answer: C 6) The steepest increase in the currency ratio since 1892 occurred during A) World War II. B) the Great Depression. C) the interwar years. D) the past twenty years. Answer: B 7) The factor accounting for the steepest rise in the currency ratio since 1892 is A) taxes. B) bank panics. C) illegal activity. D) an increase in wealth. Answer: B 8) The increase in the currency ratio during World War II was due to A) bank panics. B) a drop in the rate of interest paid on checking deposits. C) the spread of ATMs. D) high taxes and illegal activities. Answer: D Chapter 15 Tools for Monetary Policy 15.1 The Market for Reserve and the Federal Funds Rate 1) The Fed uses three policy tools to manipulate the money supply: ________, which affect reserves and the monetary base; changes in ________, which affect the monetary base; and changes in ________, which affect the money multiplier. A) open market operations; borrowed reserves; margin requirements B) open market operations; borrowed reserves; reserve requirements C) borrowed reserves; open market operations; margin requirements D) borrowed reserves; open market operations; reserve requirements Answer: B 2) The Fed uses three policy tools to manipulate the money supply: open market operations, which affect the ________; changes in borrowed reserves, which affect the ________; and changes in reserve requirements, which affect the ________. A) money multiplier; monetary base; monetary base B) monetary base; money multiplier; monetary base C) monetary base; monetary base; money multiplier D) money multiplier; money multiplier; monetary base Answer: C 3) The interest rate charged on overnight loans of reserves between banks is the A) prime rate. B) discount rate. C) federal funds rate. D) Treasury bill rate. Answer: C 4) The primary indicator of the Fed's stance on monetary policy is A) the discount rate. B) the federal funds rate. C) the growth rate of the monetary base. D) the growth rate of M2. Answer: B 5) The quantity of reserves demanded equals A) required reserves plus borrowed reserves. B) excess reserves plus borrowed reserves. C) required reserves plus excess reserves. D) total reserves minus excess reserves. Answer: C 6) Everything else held constant, when the federal funds rate is ________ the interest rate paid on reserves, the quantity of reserves demanded rises when the federal funds rate ________. A) above, rises B) above, falls C) below, rises D) below, falls Answer: B 7) The opportunity cost of holding excess reserves is the federal funds rate ________. A) minus the discount rate B) plus the discount rate C) plus the interest rate paid on excess reserves D) minus the interest rate paid on excess reserves Answer: D 8) In the market for reserves, when the federal funds rate is above the interest rate paid on excess reserves, the demand curve for reserves is ________. A) vertical B) horizontal C) positively sloped D) negatively sloped Answer: D 9) When the federal funds rate equals the interest rate paid on excess reserves ________. A) the supply curve of reserves is vertical B) the supply curve of reserves is horizontal C) the demand curve for reserves is vertical D) the demand curve for reserves is horizontal Answer: D 10) Which of the following is NOT an argument for the Federal Reserve paying interest on excess reserve holdings? A) Paying interest reduces the effective tax on deposits. B) Paying interest will help in the implementation of monetary policy. C) Paying interest will help the Federal Reserve have more control of the amount of discount loans. D) Paying interest increases the capacity of the Fed's balance sheet which will make it easier to address financial crises. Answer: C 11) The quantity of reserves supplied equals A) nonborrowed reserves minus borrowed reserves. B) nonborrowed reserves plus borrowed reserves. C) required reserves plus borrowed reserves. D) total reserves minus required reserves. Answer: B 12) In the market for reserves, when the federal funds interest rate is below the discount rate, the supply curve of reserves is A) vertical. B) horizontal. C) positively sloped. D) negatively sloped. Answer: A 13) When the federal funds rate equals the discount rate A) the supply curve of reserves is vertical. B) the supply curve of reserves is horizontal. C) the demand curve for reserves is vertical. D) the demand curve for reserves is horizontal. Answer: B 14) In the market for reserves, if the federal funds rate is above the interest rate paid on excess reserves, then an open market ________ the supply of reserves, raising the federal funds interest rate, everything else held constant. A) sale decreases B) sale increases C) purchase increases D) purchase decreases Answer: A 15) In the market for reserves, if the federal funds rate is above the interest rate paid on excess reserves, an open market purchase ________ the ________ of reserves which causes the federal funds rate to fall, everything else held constant. A) increases; supply B) increases; demand C) decreases; supply D) decreases; demand Answer: A 16) Suppose on any given day there is an excess demand of reserves in the federal funds market. If the Federal Reserve wishes to keep the federal funds rate at its current level, then the appropriate action for the Federal Reserve to take is a ________ open market ________, everything else held constant. A) defensive; sale B) defensive; purchase C) dynamic; sale D) dynamic; purchase Answer: B 17) In the market for reserves, if the federal funds rate is above the interest rate paid on excess reserves, an open market purchase ________ the supply of reserves and causes the federal funds interest rate to ________, everything else held constant. A) decreases; fall B) increases; fall C) increases; rise D) decreases; rise Answer: B 18) Suppose on any given day the prevailing equilibrium federal funds rate is above the Federal Reserve's federal funds target rate. If the Federal Reserve wishes for the federal funds rate to be at their target level, then the appropriate action for the Federal Reserve to take is a ________ open market ________, everything else held constant. A) defensive; sale B) defensive; purchase C) dynamic; sale D) dynamic; purchase Answer: D 19) In the market for reserves, if the federal funds rate is above the interest rate paid on excess reserves, an open market sale ________ the supply of reserves causing the federal funds rate to ________, everything else held constant. A) decreases; decrease B) increases; decrease C) increases; increase D) decreases; increase Answer: D 20) Suppose on any given day there is an excess supply of reserves in the federal funds market. If the Federal Reserve wishes to keep the federal funds rate at its current level, then the appropriate action for the Federal Reserve to take is a ________ open market ________, everything else held constant. A) defensive; sale B) defensive; purchase C) dynamic; sale D) dynamic; purchase Answer: A 21) Suppose on any given day the prevailing equilibrium federal funds rate is below the Federal Reserve's federal funds target rate. If the Federal Reserve wishes for the federal funds rate to be at their target level, then the appropriate action for the Federal Reserve to take is a ________ open market ________, everything else held constant. A) defensive; sale B) defensive; purchase C) dynamic; sale D) dynamic; purchase Answer: C 22) In the market for reserves, if the federal funds rate is above the interest rate paid on excess reserves, an open market sale ________ the ________ of reserves, causing the federal funds rate to increase, everything else held constant. A) increases; supply B) increases; demand C) decreases; supply D) decreases; demand Answer: C 23) In the market for reserves, a lower discount rate A) decreases the supply of reserves. B) increases the supply of reserves. C) lengthens the vertical section of the supply curve of reserves. D) shortens the vertical section of the supply curve of reserves. Answer: D 24) In the market for reserves, a lower interest rate paid on excess reserves A) decreases the supply of reserves. B) increases the supply of reserves. C) decreases the effective floor for the federal funds rate. D) increases the effective floor for the federal funds rate. Answer: C 25) Everything else held constant, in the market for reserves, when the federal funds rate is 3%, lowering the discount rate from 5% to 4% A) lowers the federal funds rate. B) raises the federal funds rate. C) has no effect on the federal funds rate. D) has an indeterminate effect on the federal funds rate. Answer: C 26) Everything else held constant, in the market for reserves, when the federal funds rate is 3%, increasing the interest rate paid on excess reserves from 1% to 2% A) lowers the federal funds rate. B) raises the federal funds rate C) has no effect on the federal funds rate. D) has an indeterminate effect on the federal funds rate. Answer: C 27) Everything else held constant, in the market for reserves, when the federal funds rate is 5%, lowering the discount rate from 5% to 4% A) lowers the federal funds rate. B) raises the federal funds rate. C) has no effect on the federal funds rate. D) has an indeterminate effect on the federal funds rate. Answer: A 28) Everything else held constant, in the market for reserves, when the federal funds rate is 1%, increasing the interest rate paid on excess reserves from 1% to 2% A) lowers the federal funds rate. B) raises the federal funds rate. C) has no effect on the federal funds rate. D) has an indeterminate effect on the federal funds rate. Answer: B 29) Everything else held constant, in the market for reserves, when the federal funds rate is 3%, raising the discount rate from 5% to 6% A) lowers the federal funds rate. B) raises the federal funds rate. C) has no effect on the federal funds rate. D) has an indeterminate effect on the federal funds rate. Answer: C 30) Everything else held constant, in the market for reserves, when the federal funds rate is 3%, lowering the interest rate paid on excess reserves rate from 2% to 1% A) lowers the federal funds rate. B) raises the federal funds rate. C) has no effect on the federal funds rate. D) has an indeterminate effect on the federal funds rate. Answer: C 31) Everything else held constant, in the market for reserves, when the federal funds rate equals the discount rate, lowering the discount rate A) increases the federal funds rate. B) lowers the federal funds rate. C) has no effect on the federal funds rate. D) has an indeterminate effect of the federal funds rate. Answer: B 32) Everything else held constant, in the market for reserves, when the federal funds rate equals the interest rate paid on excess reserves, raising the interest rate paid on excess reserves A) increases the federal funds rate. B) lowers the federal funds rate. C) has no effect on the federal funds rate. D) has an indeterminate effect of the federal funds rate. Answer: A 33) Everything else held constant, in the market for reserves, when the demand for federal funds intersects the reserve supply curve along the horizontal section, increasing the discount rate A) increases the federal funds rate. B) lowers the federal funds rate. C) has no effect on the federal funds rate. D) has an indeterminate effect on the federal funds rate. Answer: A 34) Everything else held constant, in the market for reserves, when the supply for federal funds intersects the reserve demand curve along the horizontal section, lowering the interest rate paid on excess reserves A) increases the federal funds rate. B) lowers the federal funds rate. C) has no effect on the federal funds rate. D) has an indeterminate effect of the federal funds rate. Answer: A 35) Everything else held constant, in the market for reserves, when the demand for federal funds intersects the reserve supply curve on the vertical section, increasing the discount rate A) increases the federal funds rate. B) lowers the federal funds rate. C) has no effect on the federal funds rate. D) has an indeterminate effect on the federal funds rate. Answer: C 36) Everything else held constant, in the market for reserves, when the supply for federal funds intersects the reserve demand curve on the downward sloping section, decreasing the interest rate paid on excess reserves A) increases the federal funds rate. B) lowers the federal funds rate. C) has no effect on the federal funds rate. D) has an indeterminate effect on the federal funds rate. Answer: C 37) Everything else held constant, in the market for reserves, increases in the discount rate affect the federal funds rate A) when the funds rate is below the discount rate. B) when the funds rate equals the discount rate. C) when the demand for federal funds intersects the vertical section of the reserve supply curve. D) when the demand for federal funds equals zero. Answer: B 38) Everything else held constant, in the market for reserves, decreases in the interest rate paid on excess reserves affect the federal funds rate A) when the funds rate is below the interest rate paid on excess reserves. B) when the funds rate equals the interest rate paid on excess reserves. C) when the funds rate is below the discount rate. D) when the funds rate equals the discount rate. Answer: B 39) The Federal Reserve usually keeps the discount rate A) above the target federal funds rate. B) equal to the target federal funds rate. C) below the target federal funds rate. D) equal to zero. Answer: A 40) Everything else held constant, the vertical section of the supply curve of reserves is shortened when the A) discount rate increases. B) discount rate decreases. C) federal funds rate rises. D) federal funds rate falls. Answer: B 41) Everything else held constant, the vertical section of the supply curve of reserves is lengthened when the A) discount rate increases. B) discount rate decreases. C) federal funds rate rises. D) federal funds rate falls. Answer: A 42) In the market for reserves, if the federal funds rate is between the discount rate and the interest rate paid on excess reserves, an increase in the reserve requirement ________ the demand for reserves, ________ the federal funds rate, everything else held constant. A) decreases; lowering B) increases; lowering C) increases; raising D) decreases; raising Answer: C 43) In the market for reserves, if the federal funds rate is between the discount rate and the interest rate paid on excess reserves, a ________ in the reserve requirement ________ the demand for reserves, raising the federal funds interest rate, everything else held constant. A) rise; decreases B) rise; increases C) decline; increases D) decline; decreases Answer: B 44) In the market for reserves, if the federal funds rate is between the discount rate and the interest rate paid on excess reserves, a ________ in the reserve requirement increases the demand for reserves, ________ the federal funds interest rate, everything else held constant. A) rise; lowering B) decline; raising C) decline; lowering D) rise; raising Answer: D 45) In the market for reserves, if the federal funds rate is between the discount rate and the interest rate paid on excess reserves, an increase in the reserve requirement ________ the demand of reserves and causes the federal funds interest rate to ________, everything else held constant. A) decreases; fall B) increases; fall C) increases; rise D) decreases; rise Answer: C 46) In the market for reserves, if the federal funds rate is between the discount rate and the interest rate paid on excess reserves, an increase in the reserve requirement ________ the ________ for reserves and causes the federal funds interest rate to rise, everything else held constant. A) decreases; demand B) increases; demand C) increases; supply D) decreases; supply Answer: B 47) In the market for reserves, if the federal funds rate is between the discount rate and the interest rate paid on excess reserves, a ________ in the reserve requirement ________ the demand for reserves, lowering the federal funds interest rate, everything else held constant. A) rise; decreases B) rise; increases C) decline; increases D) decline; decreases Answer: D 48) In the market for reserves, if the federal funds rate is between the discount rate and the interest rate paid on excess reserves, a ________ in the reserve requirement decreases the demand for reserves, ________ the federal funds interest rate, everything else held constant. A) rise; lowering B) decline; raising C) decline; lowering D) rise; raising Answer: C 49) In the market for reserves, if the federal funds rate is between the discount rate and the interest rate paid on excess reserves, a decline in the reserve requirement ________ the ________ curve of reserves and causes the federal funds interest rate to fall, everything else held constant. A) decreases; demand B) increases; demand C) increases; supply D) decreases; supply Answer: A 50) In the market for reserves, if the federal funds rate is between the discount rate and the interest rate paid on excess reserves, a decline in the reserve requirement ________ the demand of reserves, ________ the federal funds rate, everything else held constant. A) decreases; lowering B) increases; lowering C) increases; raising D) decreases; raising Answer: A 51) Suppose, at a given federal funds rate, there is an excess demand for reserves in the federal funds market. If the Fed wants the federal funds rate to stay at that level, then it should undertake an open market ________ of bonds, everything else held constant. If the Fed does nothing, however, the federal funds rate will ________. A) sale; increase B) purchase; increase C) sale; decrease D) purchase; decrease Answer: B 52) Suppose, at a given federal funds rate, there is an excess supply of reserves in the federal funds market. If the Fed wants the federal funds rate to stay at that level, then it should undertake an open market ________ of bonds, everything else held constant. If the Fed does nothing, however, the federal funds rate will ________. A) sale; increase B) purchase; increase C) sale; decrease D) purchase; decrease Answer: C 53) Explain the Fed's three tools of monetary policy and how each is used to change the money supply. Does each tool affect the monetary base or the money multiplier? Answer: The three tools are open market operations, the purchase and sale of government securities; discount policy, controlling the price and quantity of discount loans to banks; and reserve requirements, setting the percentage of deposits that banks must hold in reserve. Open market operations and the discount rate affect the monetary base, and reserve requirements affect the money multiplier. 54) State whether the following statement is true or false AND explain why: "A decrease in the discount rate will always cause a decrease in the federal reserve funds rate." Answer: False. Since the discount rate is set above the federal funds rate, a decrease in the discount rate will only cause a decrease in the federal funds rate if the discount rate is decreased below the original federal funds rate level. If the decrease in the discount rate is such that the new rate is still above the federal funds rate, then the federal funds rate does not change, everything else held constant. 55) State whether the following statement is true or false AND explain why: "An increase in the interest rate paid on excess reserves will always cause an increase in the federal reserve funds rate." Answer: False. If the interest rate paid on excess reserves is set below the federal funds rate, an increase in the interest rate paid on excess reserves will only cause an increase in the federal funds rate if the interest rate paid on excess reserves is increased above the original federal funds rate level. If the increase in the interest rate paid on excess reserves is such that the new rate is still below the federal funds rate, then the federal funds rate does not change, everything else held constant. 15.2 Open Market Operations 1) ________ are the most important monetary policy tool because they are the primary determinant of changes in the ________, the main source of fluctuations in the money supply. A) Open market operations; monetary base B) Open market operations; money multiplier C) Changes in reserve requirements; monetary base D) Changes in reserve requirements; money multiplier Answer: A 2) Open market purchases raise the ________ thereby raising the ________. A) money multiplier; money supply B) money multiplier; monetary base C) monetary base; money supply D) monetary base; money multiplier Answer: C 3) Open market purchases ________ reserves and the monetary base thereby ________ the money supply. A) raise; lowering B) raise; raising C) lower; lowering D) lower; raising Answer: B 4) Open market sales shrink ________ thereby lowering ________. A) the money multiplier; the money supply B) the money multiplier; reserves and the monetary base C) reserves and the monetary base; the money supply D) the money base; the money multiplier Answer: C 5) Open market sales ________ reserves and the monetary base thereby ________ the money supply. A) raise; lowering B) raise; raising C) lower; lowering D) lower; raising Answer: C 6) The two types of open market operations are A) offensive and defensive. B) dynamic and reactionary. C) active and passive. D) dynamic and defensive. Answer: D 7) There are two types of open market operations: ________ open market operations are intended to change the level of reserves and the monetary base, and ________ open market operations are intended to offset movements in other factors that affect the monetary base. A) defensive; dynamic B) defensive; static C) dynamic; defensive D) dynamic; static Answer: C 8) Open market operations intended to offset movements in noncontrollable factors (such as float) that affect reserves and the monetary base are called A) defensive open market operations. B) dynamic open market operations. C) offensive open market operations. D) reactionary open market operations. Answer: A 9) When the Federal Reserve engages in a repurchase agreement to offset a withdrawal of Treasury funds from the Federal Reserve, the open market operation is said to be A) defensive. B) offensive. C) dynamic. D) reactionary. Answer: A 10) The Federal Open Market Committee makes the Fed's decisions on the purchase or sale of government securities, but these purchases or sales are executed by the Federal Reserve Bank of A) Chicago. B) Boston. C) New York. D) San Francisco. Answer: C 11) The actual execution of open market operations is done at A) the Board of Governors in Washington, D.C. B) the Federal Reserve Bank of New York. C) the Federal Reserve Bank of Philadelphia. D) the Federal Reserve Bank of Boston. Answer: B 12) If float is predicted to decrease because of unseasonably good weather, the manager of the trading desk at the Federal Reserve Bank of New York will likely conduct a ________ open market ________ of securities. A) defensive; sale B) defensive; purchase C) dynamic; sale D) dynamic; purchase Answer: B 13) When bad storms slow the check-clearing process, float tends to ________ causing the Fed to initiate defensive open market ________. A) decrease; sales B) decrease; purchases C) increase; sales D) increase; purchases Answer: C 14) When good weather speeds the check-clearing process, float tends to ________ causing the Fed to initiate defensive open market ________. A) decrease; sales B) decrease; purchases C) increase; sales D) increase; purchases Answer: B 15) When bad storms slow the check-clearing process, float tends to ________ causing the Fed to initiate ________ open market ________. A) decrease; defensive; sales B) decrease; dynamic; purchases C) increase; defensive; sales D) increase; dynamic; purchases Answer: C 16) When good weather speeds the check-clearing process, float tends to ________ causing the Fed to initiate ________ open market ________. A) decrease; defensive; sales B) decrease; dynamic; sales C) decrease; defensive; purchases D) increase; dynamic; purchases Answer: C 17) If float is predicted to increase because of bad weather, the manager of the trading desk at the New York Fed bank will likely conduct ________ open market operations to ________ reserves. A) defensive; inject B) defensive; drain C) dynamic; inject D) dynamic; drain Answer: B 18) If float is predicted to decrease because of good weather, the manager of the trading desk at the New York Fed bank will likely conduct ________ open market operations to ________ reserves. A) defensive; inject B) defensive; drain C) dynamic; inject D) dynamic; drain Answer: A 19) If Treasury deposits at the Fed are predicted to increase, the manager of the trading desk at the New York Fed bank will likely conduct ________ open market operations to ________ reserves. A) defensive; inject B) defensive; drain C) dynamic; inject D) dynamic; drain Answer: A 20) If Treasury deposits at the Fed are predicted to ________, the manager of the trading desk at the New York Fed bank will likely conduct ________ open market operations to ________ reserves. A) increase; defensive; inject B) decrease; defensive; drain C) increase; dynamic; inject D) decrease; dynamic; drain Answer: A 21) If Treasury deposits at the Fed are predicted to fall, the manager of the trading desk at the New York Fed bank will likely conduct ________ open market operations to ________ reserves. A) defensive; inject B) defensive; drain C) dynamic; inject D) dynamic; drain Answer: B 22) If Treasury deposits at the Fed are predicted to ________, the manager of the trading desk at the New York Fed bank will likely conduct ________ open market operations to ________ reserves. A) rise; defensive; drain B) fall; defensive; drain C) rise; dynamic; inject D) fall; dynamic; drain Answer: B 23) If the Fed expects currency holdings to rise, it conducts open market ________ to offset the expected ________ in reserves. A) purchases; increase B) purchases; decrease C) sales; increase D) sales; decrease Answer: B 24) If the Fed expects currency holdings to fall, it conducts open market ________ to offset the expected ________ in reserves. A) purchases; increase B) purchases; decrease C) sales; increase D) sales; decrease Answer: C 25) If the banking system has a large amount of reserves, many banks will have excess reserves to lend and the federal funds rate will probably ________; if the level of reserves is low, few banks will have excess reserves to lend and the federal funds rate will probably ________. A) fall; fall B) fall; rise C) rise; fall D) rise; rise Answer: B 26) The Federal Reserve will engage in a repurchase agreement when it wants to ________ reserves ________ in the banking system. A) increase; permanently B) increase; temporarily C) decrease; temporarily D) decrease; permanently Answer: B 27) If the Fed wants to temporarily inject reserves into the banking system, it will engage in A) a repurchase agreement. B) a matched sale-purchase transaction. C) a reverse repurchase agreement. D) an open market sale. Answer: A 28) The Fed can offset the effects of an increase in float by engaging in A) a repurchase agreement. B) a matched sale-purchase transaction. C) an interest rate swap. D) an open market purchase. Answer: B 29) The Federal Reserve will engage in a matched sale-purchase transaction when it wants to ________ reserves ________ in the banking system. A) increase; permanently B) increase; temporarily C) decrease; temporarily D) decrease; permanently Answer: C 30) Explain dynamic and defensive open market operations. What is the purpose of each type? Describe two situations when defensive open market operations are used. How are defensive open market operations typically conducted? Answer: Dynamic OMOs are used to permanently change the monetary base and money supply. Defensive operations are used to offset temporary changes in the monetary base and/or money supply. Defensive operations are used to offset float, shifts in Treasury balances into or out of the Fed, and temporary changes in currency. Defensive purchases are typically conducted by using repurchase agreements, while reverse repos or matched sale-purchase transactions are used to conduct defensive open market sales. 15.3 Discount Policy 1) Discount policy affects the money supply by affecting the volume of ________ and the ________. A) excess reserves; monetary base B) borrowed reserves; monetary base C) excess reserves; money multiplier D) borrowed reserves; money multiplier Answer: B 2) The discount rate is A) the interest rate the Fed charges on loans to banks. B) the price the Fed pays for government securities. C) the interest rate that banks charge their most preferred customers. D) the price banks pay the Fed for government securities. Answer: A 3) The most common type of discount lending that the Fed extends to banks is called A) seasonal credit. B) secondary credit. C) primary credit. D) installment credit. Answer: C 4) The most common type of discount lending, ________ credit loans, are intended to help healthy banks with short-term liquidity problems that often result from temporary deposit outflows. A) secondary B) primary C) temporary D) seasonal Answer: B 5) When the Fed acts as a lender of last resort, the type of lending it provides is A) primary credit. B) seasonal credit. C) secondary credit. D) installment credit. Answer: C 6) The Fed's discount lending is of three types: ________ is the most common category; ________ is given to a limited number of banks in vacation and agricultural areas; ________ is given to banks that have experienced severe liquidity problems. A) seasonal credit; secondary credit; primary credit B) secondary credit; seasonal credit; primary credit C) primary credit; seasonal credit; secondary credit D) seasonal credit; primary credit; secondary credit Answer: C 7) The discount rate is ________ kept ________ the federal funds rate. A) always; below B) typically; below C) typically; equal to D) typically; above Answer: D 8) The discount rate refers to the interest rate on A) primary credit. B) secondary credit. C) seasonal credit. D) federal funds. Answer: A 9) The interest rate on secondary credit is set ________ basis points ________ the primary credit rate. A) 100; above B) 100; below C) 50; above D) 50; below Answer: C 10) The interest rate for primary credit is usually set ________ basis points ________ the federal funds rate. In March 2008, this gap was changed to ________ basis points. A) 50; below; 100 B) 100; above; 25 C) 100; below; 50 D) 50; above; 25 Answer: B 11) The interest rate on seasonal credit equals A) the federal funds rate. B) the primary credit rate. C) the secondary credit rate. D) an average of the federal funds rate and rates on certificates of deposits. Answer: D 12) The Fed is considering eliminating A) primary credit lending. B) secondary credit lending. C) seasonal credit lending. D) its lender of last resort function. Answer: C 13) At its inception, the Federal Reserve was intended to be A) the Treasury's banker. B) the issuer of government debt. C) a lender-of-last-resort. D) a regulator of bank holding companies. Answer: C 14) Much of the credit for prevention of a financial market meltdown after "Black Monday" (October 19, 1987) must be given to the Federal Reserve System and its chairman A) Paul Volker. B) Alan Blinder. C) Arthur Burns. D) Alan Greenspan. Answer: D 15) A financial panic was averted in October 1987 following "Black Monday" when the Fed announced that A) it was lowering the discount rate. B) it would provide discount loans to any bank that would make loans to the security industry. C) it stood ready to purchase common stocks to prevent a further slide in stock prices. D) it was raising the discount rate. Answer: B 16) The facility that was created in December of 2007 that banks can use to borrow from the Fed that has less of a stigma for banks compared to borrowing from the discount window is the ________. A) Term Securities Lending Facility B) Term Auction Facility C) Primary Dealer Credit Facility D) Commerical Paper Funding Facility Answer: B 17) Which of the following special lending facilities set up by the Federal Reserve is reserve neutral? A) Term Auction Facility B) Primary Dealer Credit Facility C) Term Securities Lending Facility D) Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility Answer: C 18) The Fed's lender-of-last-resort function A) has proven to be ineffective. B) cannot prevent runs by large depositors. C) is no longer necessary due to FDIC insurance. D) creates a moral hazard problem. Answer: D 19) The most important advantage of discount policy is that the Fed can use it to A) precisely control the monetary base. B) perform its role as lender of last resort. C) control the money supply. D) punish banks that have deficient reserves. Answer: B 15.4 Reserve Requirements 1) An increase in ________ reduces the money supply since it causes the ________ to fall. A) reserve requirements; monetary base B) reserve requirements; money multiplier C) margin requirements; monetary base D) margin requirements; money multiplier Answer: B 2) A decrease in ________ increases the money supply since it causes the ________ to rise. A) reserve requirements; monetary base B) reserve requirements; money multiplier C) margin requirements; monetary base D) margin requirements; money multiplier Answer: B 3) The Federal Reserve has had the authority to vary reserve requirements since the A) 1920s. B) 1930s. C) 1940s. D) 1950s. Answer: B 4) Since 1980, ________ are subject to reserve requirements. A) only commercial banks B) only the member institutions of the Federal Reserve C) only nationally chartered depository institutions D) all depository institutions Answer: D 5) Funds held in ________ are subject to reserve requirements. A) all checkable deposits B) all checkable and time deposits C) all checkable, time, and money market fund deposits D) all time deposits Answer: A 6) The policy tool of changing reserve requirements is A) the most widely used. B) the preferred tool from the bank's perspective. C) no longer used. D) still used, even with its disadvantages. Answer: C 15.5 Monetary Policy Tools of the European Central Bank 1) The European System of Central Banks signals the stance of its monetary policy by setting a target for the A) federal funds rate. B) overnight cash rate. C) lombard rate. D) reserve rate. Answer: B 2) When the European System of Central Banks uses main refinancing operations, it is similar to the Federal Reserve using A) dynamic open market operations. B) defensive open market operations. C) discount policy. D) reserve requirements. Answer: B 3) When the European System of Central Banks uses long-term refinancing operations, it is similar to the Federal Reserve using A) dynamic open market operations. B) defensive open market operations. C) discount policy. D) reserve requirements. Answer: A 4) The equivalent to the Federal Reserve's discount rate in the European System of Central Banks is the A) federal funds rate. B) marginal lending rate. C) deposit facility rate. D) lombard rate. Answer: B 5) The Federal Reserve ________ pay interest on reserves held on deposit. The European System of Central Banks ________ pay interest on reserves held on deposit. A) does; does B) does; does not C) does not; does D) does not; does not Answer: C 6) Since the European Central Bank ________ interest on reserves, banks have a ________ cost of complying with reserve requirements when compared to banks complying with the reserve requirements of the Federal Reserve. A) pays; lower B) pays; higher C) does not pay; lower D) does not pay; higher Answer: A Test Bank for The Economics of Money, Banking and Financial Markets Frederic S. Mishkin 9780321599797, 9780134734200, 9780133836790, 9780134734606, 9780134733821
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