Answer the following questions.

An attempt to use government spending to boost the economy may bring:

inflation.

deflation.

anarchy.

fiscal instability.

3.43 points

Question 2

An element of trust is built into money, because:

the government maintains a monopoly over the money supply, and people tend to trust monopolies.

one must expect that it will still have value when the holder of money wants to spend it in the future.

people must trust that the government can always print more of it if necessary.

people must trust the Federal Reserve to prevent banks from failing.

3.33 points

Question 3

An increase in the GDP from a $1 cut in taxes is called:

the GSE (government spending effect).

the tax multiplier.

the fiscal multiplier.

the base multiplier.

3.33 points

Question 4

If tax cuts are stimulative, tax increases are:

contractionary.

reactionary.

inflationary.

deflationary.

3.33 points

Question 5

If the Federal Reserve lowers the federal funds rate:

the quantity of funds borrowed and lent will decrease.

other interest rates, such as home mortgage rates, will rise to compensate.

inflation is more likely to appear.

long-term interest rates will react more than short-term rates.

3.33 points

Question 6

If the Federal Reserve raises the federal funds rate, which one of the following will not tend to result?

The money supply will fall.

Car loan and home mortgage rates will rise.

Businesses will find it easier to obtain funds to expand.

Inflation will decline.

3.33 points

Question 7

If the Federal Reserve raises the federal funds rate, which one of the following will tend to result?

The inflation rate will increase.

The demand curve for goods and services bought with a credit card will shift to the left.

The demand curve for cars will shift to the right.

Home mortgage rates will decline.

3.33 points

Question 8

In 1955, the marginal tax rate for a married couple with a taxable income of $400,000 was:

35%.

30%.

85%.

91%.

3.33 points

Question 9

In the short term, an increase in government spending:

lowers taxes and wages.

raises prices and wages.

raises taxes, but lowers wages.

raises wages and lowers inflation.

3.33 points

Question 10

Inflation targeting is a policy in which the Fed:

announces an inflation target and then runs monetary policy to hit that target.

tries to reduce inflation by setting a low federal funds rate target.

tries to reduce inflation by setting a high federal funds rate target.

uses open market operations as a method of discretionary intervention, increasing the money supply when there is a recession, and decreasing it when there is an unsustainable economic expansion.

3.33 points

Question 11

Members of the Board of Governors of the Federal Reserve are:

appointed by the outgoing chairman of the Board of Governors, and confirmed by Congress.

appointed by the President of the United States.

elected by the stockholders of the eight largest banks in the United States.

appointed by the Treasury Secretary.

3.33 points

Question 12

Money enables us to make comparisons of value among multiple goods and services. This is the ________ purpose of money.

medium of exchange

store of value

standard of value

inflationary

3.33 points

Question 13

One of the advantages of monetary policy over fiscal policy is that:

monetary policy must be approved by Congress, which prevents bad monetary policy from taking effect.

monetary policy does not produce inflation, while fiscal policy does.

the Fed can react more quickly than a legislature can.

monetary policy allows the Fed to limit government spending, so that government budget deficits are reduced.

3.33 points

Question 14

People who have bought a house using an adjustable rate mortgage are most likely to be hurt by:

an increase in the inflation rate.

an increase in the amount of the Fed's discount lending.

a decrease in the reserve requirement.

an increase in the federal funds rate.

3.33 points

Question 15

Supply-side economics argues that changes in ________ affect(s) incentives to work.

marginal tax rates

marginal income

marginal profit

marginal balance

3.33 points

Question 16

Tax cuts tend to boost:

disposable income.

tax revenues.

inflation.

interest rates.

3.33 points

Question 17

The Federal Reserve's response to the 2001 recession was:

to cut the federal funds rate over a three-year period.

to lower the reserve requirement.

to raise the margin requirement and lower the reserve requirement.

to lower the money supply by 7% in order to reduce over-inflated stock prices.

3.33 points

Question 18

The _________ of the United States is responsible for implementing fiscal policy.

Treasurer

Secretary of the Interior

Secretary of State

Vice President

3.33 points

Question 19

The current chairman of the Federal Reserve Board is:

Alan Greenspan.

Paul Volcker.

Ben Bernanke.

Morgan Stanley.

3.33 points

Question 20

The effect of crowding out over the long run is:

bad, because businesses have less access to capital.

good, because it ensures strong businesses.

bad, because it is deflationary in nature.

good, because it tends to reduce taxes.

3.33 points

Question 21

The time between recognizing a recession and before spending occurs is called:

retro tax.

fiscal drag.

leverage effect.

lag.

3.33 points

Question 22

The transfer of domestic economic stimulus to foreign markets is known as:

economic overage.

net export leakage.

overseas leakage.

fiscal offset.

3.33 points

Question 23

The wealthy have a(n) ___________ marginal propensity to consume.

lower

higher

elastic

inelastic

3.33 points

Question 24

When higher taxes discourage whatever activity is being taxed, that is called:

tax discouragement.

tax abatement.

negative-positive effect.

the negative incentive effects.

3.33 points

Question 25

When production is outsourced, a domestic fiscal stimulus could lead to:

decreased imports.

increased imports.

a net loss.

a net gain.

3.33 points

Question 26

Which of the following is a tool of the Federal Reserve System?

Buying or selling stocks of publicly traded corporations in order to stabilize the stock market

Buying or selling government bonds in order to stimulate the economy during recessions and prevent inflation.

Reducing the burden of household debt by capping credit card and other loan interest rates to reasonable levels.

Encouraging employment by lending money at a low ("discount") rate to firms that are in danger of having to make layoffs.

3.33 points

Question 27

Which of the following statements about monetary policy is true?

Unlike fiscal policy, there is no delay between the Fed's enacting a policy and the policy's effects.

The Fed's policies tend to take effect more quickly and with less political influence than fiscal policy.

Monetary policy has an equal impact on short-term and long-term interest rates.

The Fed controls most interest rates directly, by telling banks and other financial institutions what interest rate they must charge for common loans.

3.33 points

Question 28

Which of the following would have the effect of increasing the money supply?

Raising the reserve requirement

Raising the discount rate

Lowering the federal funds rate

Selling some of the Fed's U.S. Treasury securities

3.33 points

Question 29

Which of the following would shift the demand curve for cars to the right?

An increase in the federal funds rate

An increase in discount lending by the Fed to banks

An increase in home mortgage interest rates

An increase in the unemployment rate over the NAIRU

3.33 points

Question 30

__________ originally proposed the use of government spending to stimulate the economy in the 1930s, during the Great Depression.

John Maynard Keynes

Franklin Delano Roosevelt

Albert Einstein

Charles H. Chaplin.

B).

1. Suppose that you are tasked with managing a liability of $5,000 worth of 6% 4-year, annual coupon bonds when the interest rate is 4.5%. You want to minimize the interest rate risk by immunizing this position through value and duration matching. If you have 2-year and 10-year zero-coupon bonds available to create the hedge, how many dollars should you invest in each bond? Explain at least three reasons this hedge will not be perfect one year after you set it up.

2. Assume that you sell short 350 shares of a stock when the market price is 32.10-32.15. Your broker demands a 20% haircut for collateral and pays a short rebate of 3%. You borrow all needed cash for the transaction above the short proceeds at an interest rate of 4.8%. One year later, the price is 29.50- 29.55, and you close the position. What is the net profit (in $)?

3. Assume that you sell short a 3.5% semi-annual coupon bond with 7 years to maturity when the market interest rate is 4% (and you buy on a coupon payment date so that the price is clean). You deposit the short proceeds plus a 15% haircut that you pay out of your own capital. 18 months later, interests rates have risen to 4.3%, and you close the position by buying back the bond. If the repo rate is 2%, what is the net profit from these trades? What is the percent return, based on your out-ofpocket capital investment only? What is the effective annual rate for this investment?

4. If a non-dividend paying stock is trading today at $52 when the interest rate is 3%, what is the 8- month forward price? If the forward contract is available at a price of $51, what three transactions should you make in order to earn the available arbitrage profit? How much money could you make 8 months from now, and what is the present value of that profit today?

5. A stock is trading today at $90, and the company is expected to pay quarterly dividends of $0.45. (Assume that the stock is bought on an ex-dividend date, so the first dividend is to be paid three months after the purchase.) The continuously compounded interest rate is 4.2%. What is the 10-month forward price? What is the price of a prepaid 10-month forward? If the price of the stock in 10 months is $95, what is the profit or loss from the forward contract?

6. If the exchange rate is currently $2.10/ when the pound interest rate is 3% and the dollar interest rate is 1.5%, what is the correct price for a 1-year forward contract? (All rates are continuously compounded.)

7. Assume that you have a well-diversified portfolio valued at $3 million with a beta of 1.8, but you have a negative outlook on the short-term prospects of the market and want to reduce your market risk using index futures. In particular, you want to reposition your portfolio to have a beta to 0.7. Assume that the S&P 500 is trading at a price of 2,800, the futures multiplier is $250, and the futures price is currently 2,770. How many futures contracts would you need to trade long or short in order to alter the beta?