Econ 104 – Flashcard
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In a market system, the most dangerous types of bankruptcies involve
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Financial institutions
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Reasons that banks are heavily regulated
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•governments are concerned about the safety of deposits •the industry is a principle determinant of aggregate demand •bank failures are contagious
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Bankers business decisions effect the money supply because bankers
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Have the ability to create money
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A bank run involves a large flow of money
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Out of depositors accounts
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In order for barter trades to occur, there must be a
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Double coincidence of wants
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The "efficiency of the payments mechanism" refers to
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The ease and speed of exchanging money for goods and services
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Money is an imperfect store of value when
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The rate of inflation is high
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Liquidity refers to
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Ease with which an asset can be converted into cash
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Fiat money is
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Only backed by government decree
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The primary feature of money is that it serves as
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A medium of exchange
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Currently in the United States, money is backed by
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Everyone's willingness to accept it
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The new $20 bills are being introduced by the U.S. Treasury primarily to diminish
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Counterfeiting
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M1 is
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The money supply that includes coins, paper money, travelers checks, conventional checking accounts, and other checkable deposits at banks and savings institutions
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Electronic cash or E-cards are
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Not included in the definition of the money supply
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"Near monies"
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Liquid assets that are close substitutes for money
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One difference between the assets included in M1 and those added to calculate M2 is that the items in M1 are
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More liquid than those to commute M2
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Example of something included in M1
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Travelers checks
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The M2 definition of the money supply is based on the concept that
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Many types of deposits can be used as both payments and stores of value
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Are "smart cards" or E-cash cards part of the money supply?
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No, because they are merely means to transfer checking deposits
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Due to new methods of electronically transferring assets from savings accounts to checking accounts, many economists favor moving savings accounts from
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M2 into M1
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Under fractional banking, when a bank lends to a customer
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The money supply increases
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Bank regulators are concerned about the safety of depositors because
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•bank failures were common throughout most of U.S. History and have even occurred in recent decades •in the absence of federal insurance, depositors would lose their money if a bank failed. •nervous depositors may rush to withdraw their accounts and produce a "run" that could threaten even a sound bank
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The objective of bank management is to
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Strike the appropriate balance between the attraction of bank profits and the need for bank safety
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Excess reserves make a bank less vulnerable to runs, but bankers do not like to hold excess reserves because holding excess reserves
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Means lower profits for banks
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If a bank has $1,000,000 in reserves and checking deposits of $3,000,000, what is the banks reserve position if the required reserve ratio is 20 percent?
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$600,000 of required reserves, $400,000 of excess reserves
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The balance sheet of a solvent bank will show
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Assets= liabilities+net worth
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The government banking regulation that places an upper limit in the money supply is
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Reserve requirements on bank deposits
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The required reserve ratio is 10 percent, but banks actually keep 20 percent on reserve. The actual money multiplier will be
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5
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If people begin to hold more cash, the money multiplier process will
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Decrease in actual size
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The Feds principle objective is to
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Manage the money supply and interest rates
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The fed is unlike other central banks in that
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has 12 branches
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The actual control of the Federal Reserve System resides in the
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Board of Governors
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Members of the Board of Governors of the Fed are
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appointed by the president for 14-year terms and confirmed by the Senate
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When the Federal Reserve System was first established, its founders intended the Fed to
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provide protection against financial panics by acting as the lender of last resort
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The European Central Bank, established in 1999, was patterned after the
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Federal Reserve, Founded in 1914
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In practice, money supply and short-term interest rates are determined by the
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Federal Open Market Committee
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The Fed is institutionally independent. A major advantage of this is that monetary policy
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is not controlled by politicians
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If the Fed buys a T-bill from an individual rather than from a bank, the effect on the money supply is
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the same
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If the Fed buys a T-bill from a commercial bank, how will it pay for the T-bill?
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It will give the bank new reserves
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The tool most frequently relied on by the Fed is
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Open market operations
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Assume the required reserve ratio is 20 percent and the FOMC orders an open market purchase of $100 million in government securities from member banks. If the oversimplified money multiplier is assumed, then the money supply will
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increased by $500 million
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When the Fed sells a government security to the public, how does it usually receive payment for the security?
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by accepting checks on bank accounts
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Example of something that will lower interest rates in the short run?
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a decrease in real GDP
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Interest rates rose in the second quarter of 1999. What happened to bond prices during this time?
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They decreased
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The concept of "lender of last resort" is that when
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commercial banks are hesitant to lend, the Fed will step in and increase reserves
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The reason that the Fed does not actively use discount rate policy to control the money supply is because the Fed
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does not know how banks will respond to discount rate changes
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Example of what will increase interest rates in the short run
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open market sales by the Fed
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If the Fed were to increase the money supply at the same time the government was increasing taxes, we could expect
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a decrease in the interest rates but the effect on real GDP is indeterminant
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Under what conditions will the inflationary impact of an expansionary monetary policy be the largest?
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When equilibrium real GDP is at potential real GDP
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After the attacks of September 11, 2001, the proper policy response was
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expansionary monetary and fiscal policy
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Which of the following is the formula for velocity?
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Velocity=nominal GDP/M
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Which is likely to be larger, the velocity of M1 or M2?
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M1, because M2 is a larger number
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A look at the historical data indicates that velocity for M1
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has been more variable than the velocity for M2, but both have been fairly constant for the past 65 years
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The quantity theory of money assumes that
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changes in velocity are so small that velocity can be considered constant
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If credit cards were suddenly ruled illegal and were no longer used, the most likely effect would be a decrease in the
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velocity of circulation
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As the price level rises, the demand for money
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increases because more money is needed for each transaction
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The principle factor determining velocity is the
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frequency with which paychecks are distributed
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If financial news broadcasts reported that inflation was likely to rise significantly next year, what would most likely happen to the velocity of circulation?
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It will increase
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When comparing the keynesian and monetarist approaches, the only substanstive difference is that
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the Keynesian equation leads to a prediction of real GDP, the monetarist equation leads to a prediction of nominal GDP.
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The major limitation of both the Keynesian approach and the monetarist approach is that both
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are ways of studying the aggregate demand curve, but to learn anything about the price level and output, and aggregate supply curve must be included in the analysis
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According to the simple quantity theory of money, a change in the money supply of 9.6 perecent would lead to a
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9.6 percent change in nominal GDP
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Contractionary fiscal policy
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reduces the quantity of money demanded, reduces interest rates, and increases investment spending
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For Keynesian economists to incorporate monetary policy into their models, they must know
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how the money supply affects interest rates
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Which of the following is the Keynesian view of the sequance of cause and effect of monetary policy?
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M, r, I, Y
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It is often reported that by financial news reports that higher interest rates reduce automobile sales. If this is true, we can expect
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monetary policy to be more effective
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A major advantage of monetary policy over fiscal policy is that monetary
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Policy can be put into effect more quickly
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The optimal time for the implementation of contractionary fiscal policy would be
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before inflation accelerated
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One of the problems with fixed targets for the money supply is that
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demand for money does not grow smoothly and predictably
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If the Fed decides to target money supply growth, it must be prepared to accept
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Interest rate volatility
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If the aggregate supply curve is flat
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expansionary fiscal or monetary policy will buy large gains in real output at low cost in terms of inflation
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Economists maintain that
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*The aggregate supply curve is nearly horizontal at low levels of real GDP *The aggregate supply curve is nearly vertical at very high levels of real GDP *Any change in aggregate demand will have most of its effects on output when economic activity is low, but on prices when the economy is near full employment
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An expansionary monetary policy is most likely to produce an inflationary effect with little impact on output when the economy
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Is near full employment and the aggregate supply curve is vertical
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When will stabilization policy be most effective in combating recessions?
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When AS is flat
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What role does ideology play in the debate on stabilization?
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A large role, because there are conservative and liberal economists
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The Fed's quick response to the threat to the economy after September 11, 2001, makes a strong case for
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A discretionary-based monetary policy regime
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After September 11, 2001, both Republicans and Democrats agreed on the need for some type
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Stimulus package to counteract recession
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To maintain a balanced budget during the sag in personal spending in 2000-2001 could cause a(n)
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decrease in aggregate demand and recession
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If the U.S. government decided to pay off the national debt by creating money in a few years. what would most likely be the most likely effect?
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Rapid inflation
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The government should not attempt to balance the budget if
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*The economy is in a recessionary gap *Actual GDP is below full-employment GDP *Unemployment is rising
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If the economy is in an inflationary gap, and the government attempts to balance the budget, the effect will be to
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Continue inflationary pressures
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If the president and Congress agree to balance the budget during a recession, then the appropriate monetary policy is
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Increase the growth of the money supply
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If in a fiscal year 2001, the federal government receives $1,990 billion in revenues and spends $1,875 billion for goods and services, the national debt will
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Decrease by $115 billion
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Compared to the size of GDP in 2004, the national debt was approximately
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one-third as large
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A chart of the ratio of national debt to GDP from 1915 to 2001 would show
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Significant increases from 1980 to 1995
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The net national debt is smaller than the gross national debt because
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Some debt is held by government agencies
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With no change in fiscal policy, the budget
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Deficit will rise during a recession and fall during a boom
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A Recessionary gap causes national debt to increase because
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Income tax receipts drop off markedly
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If the inflation rate falls, what will happen to the budget deficit?
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It will fall, because interest payments will fall
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The U.S. government need never default on its debt because
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It can raise the funds it needs to repay by taxation, and it can print money to repay
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The policy mix that the Clinton administration sought in early 1993 was a
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Smaller budget deficit and looser monetary policy
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Budget deficits are inflationary when
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The economy is at full employment and the aggregate supply curve is vertical
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The central bank is said to monetize the deficit when it
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Purchases the bonds that the government issues
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If the Fed is increasing its holdings of government bonds at the same the federal deficit is increasing
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the debt is being monetized
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The decisions on the part of the government to increase spending by $5 billion will have the largest impact on aggregate demand when the spending is financed by the sale of bonds to
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The Fed
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Reason why the Fed might decide to monetize the deficit?
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to keep interest rates low
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Crowding out can best be defined as
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Government deficits increase interest rates and decrease investment
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Economists who argue in favor of rapid deficit reduction claim that deficit reduction will
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Reduce crowding out, increase investment, and increase AS
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In the late 1990s, the more than expected increases in tax revenues were the result of
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Rapid economic growth
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The economy's self-correcting mechanism to eliminate a recessionary gap relies on
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Falling wage rates that shift the aggregate supply curve outward
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Demand-side inflation differs from supply-side inflation due to
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demand-slide inflation has higher output; supply-slide inflation has lower output
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Aggregate supply tends to grow because
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*There are more workers in the economy every year *There is more capital in the economy every year *Technology tends to improve every year
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If the aggregate supply curve is vertical, the short-run Phillips curve will
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Also be vertical
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The Phillips curve is built on the assumption that business fluctuations are
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From the demand side
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One reason why the Phillips curve "broke down" is
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Most of the inflation of the 1970's was from the supply side
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The recent rapid advance in computer technology is one of the reasons given for the shift of the
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Aggregate supply curve outward
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After September 11, 2001, President George W. Bush believed in the need for a fiscal stimulus. The proper fiscal policy to reflect this could include a(n)
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Increase in government purchases
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What are policies that would increase total expenditures but still reduce unemployment?
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*Decrease taxes *Increase government spending *Increase transfer payments
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The central idea of supply-side tax cuts is that certain types of tax cuts will increase
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Aggregate Supply
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A proponent of supply-Side economics would advocate
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Reducing income taxes on saving
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The primary goals of supply-side economics is to
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Reduce inflation and increase growth at the same time
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A reduction in the capital gains tax, often advocates by portents of supply-side economics, is supposed to stimulate
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Investment Spending
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Critics of supply-side economics argue that a major flaw is
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*The small magnitude of supply-side effects *The large size of demand-size effects *Increased income inequality
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One objection to supply-side tax cuts is that demand-side changes
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Are larger than supply-side changes
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If the demand-side effect of supply-side tax cuts are greater than the supply-side effects, then we can expect the result to be a(n)
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Increase in output and prices
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Capital gains tax cuts inevitable benefit
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High-income stock owners
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Tax cuts associated with supply-side economics often lead to increased
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Federal budget deficits
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Since the supply-side tax cuts of the 1980s
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There has been no evidence that supply-side incentives increase saving or the labor supply
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A Keynesian economist would expect a supply-side tax cut to shift
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Only the aggregate demand curve outward
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When did we begin experience a negative growth rate during current recession?
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First quarter of 2008
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Cause of Great Recession
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*Excessive lending by banks which violated rules *Subprime mortgage defaults *High Leverage
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If I use $10,000.00 of my own saving and borrow $60,000.00 from a local bank and invest the total amount, my leverage is
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7 to 1
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The main reason as to why the current recession has lasted for so long is due to the
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Depressed housing market
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Obama administration and the Fed have been consistent in fighting current recession in that
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The Fed has engaged in excessive lending and administration has increased government spending
