University Of Arizona - ECON 330 Midterm 1-7 Questions and Answers

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Chapter 1 1) The financial system is primarily a means by which 1) A) funds are transferred from savers to borrowers. B) the government puts into operation its plans for the economy. C) business f... irms distribute their goods. D) money is put into circulation. Diff: 1 Page Ref: 4 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 2) Which of the following is NOT a financial asset? 2) A) Wells Fargo Bank B) a home mortgage loan C) a certificate of deposit D) a bond issued by Google Diff: 1 Page Ref: 2 Topic: financial assets Objective: Identify the key components of the financial system AACSB: Reflective Thinking 3) If you buy a bond issued by Intel, the bond is a(n): 3) A) liability to both you and Intel. B) asset to both you and Intel. C) liability to you and an asset to Intel. D) liability to Intel and an asset to you. Diff: 2 Page Ref: 4 Topic: financial assets Objective: Identify the key components of the financial system AACSB: Reflective Thinking 4) Which of the following forms the largest share of household holdings of financial assets? 4) A) corporate equities B) life insurance C) bank deposits D) pension funds reserves Diff: 1 Page Ref: 9 Topic: financial assets Objective: Identify the key components of the financial system AACSB: Reflective Thinking 5) Which of the following is NOT a key financial service provided by the financial system? A) profitability B) risk sharing C) information D) liquidity Diff: 1 Page Ref: 12-­‐13 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 6) Economists define risk as A) the difference between the return on common stock and the return on corporate bonds. B) the chance that the value of financial assets will change from what you expect. C) the difference between the interest rate borrowers pay and the interest rate lenders receive. D) the ease with which an asset can be exchanged for other assets or for goods and services. Diff: 1 Page Ref: 12 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 7) Economists define liquidity as A) the ease with which an asset can be exchanged for money. B) the fraction the asset makes up of an investor'ʹs portfolio. C) the difference between the return on the asset and the return on a long-­‐term U.S. Treasury bond. D) the difference between the total demand for an asset and the total supply of the asset. Diff: 1 Page Ref: 13 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 8) Which of the following assets is the most liquid? A) computer B) U.S. Treasury bond C) washing machine D) money market mutual fund Diff: 2 Page Ref: 13 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 9) By providing and communicating information, the financial system A) reduces the difference between the return on three-­‐month U.S. Treasury bills and the return on thirty-­‐year U.S. Treasury bonds. B) relieves individual savers from the necessity of searching out individual borrowers. C) guarantees investors a reasonable return on their money. D) eliminates the risk in investing in the stock market. Diff: 2 Page Ref: 13-­‐14 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 10) Financial securities that represent partial ownership of a corporation are known as A) bonds. B) dividends. C) stocks. D) coupons. Diff: 1 Page Ref: 3 6) 7) 8) 9) 10) Topic: financial assets Objective: Identify the key components of the financial system AACSB: Reflective Thinking 11) Securitization is the process of 11) A) issuing stocks to finance capital spending. B) converting loans into securities. C) issuing bonds to finance purchases of equipment and structures. D) reducing risk by decreasing corporate debt loads. Diff: 1 Page Ref: 4 Topic: financial assets Objective: Identify the key components of the financial system AACSB: Reflective Thinking 12) If a bank grants you a mortgage, the mortgage is A) an asset to you as well as an asset to the bank. B)a liability to you as well as a liability to the bank. C) a liability to you, but an asset to the bank. D) an asset to you, but a liability to the bank. Diff: 2 Page Ref: 4 Topic: financial assets Objective: Identify the key components of the financial system AACSB: Reflective Thinking 12) 13) Financial markets 13) A) act as go-­‐betweens by holding a portfolio of assets and issuing claims based on that portfolio to savers. B) channel funds indirectly between borrowers and lenders. C) channel funds directly from lenders to borrowers. D) generally provide lenders with lower returns than do financial intermediaries. Diff: 2 Page Ref: 4 Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 14) If you purchase a Treasury bond, the Treasury bond is 14) A) a liability to you, but an asset to the U.S. government. B) a liability to you as well as a liability to the U.S. government. C) an asset to you as well as an asset to the U.S. government. D) an asset to you, but a liability to the U.S. government. Diff: 2 Page Ref: 4 Topic: financial assets Objective: Identify the key components of the financial system AACSB: Reflective Thinking 15) Which president said, "ʺProsperity is just around the corner"ʺ? A) Franklin Delano Roosevelt near the start of the Great Depression B) George W. Bush near the start of the Great Recession C) Herbert Hoover near the start of the Great Depression D) Barack Obama near the start of the Great Recession Diff: 1 Page Ref: 1 Topic: financial crisis of 2007-­‐2009 Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 15) 16) Funds flow from lenders to borrowers A) primarily through government agencies. B) indirectly through financial intermediaries. C) indirectly through financial markets. D) directly through financial intermediaries. Diff: 1 Page Ref: 4 Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 17) Which of the following is NOT a financial intermediary? A) Vanguard Total Stock Market Index Fund B) Bank of America C) NASDAQ D) Allstate Insurance Company Diff: 1 Page Ref: 4 Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 18) Which of the following is NOT a financial intermediary? A) bank B) stock exchange C) mutual fund D) insurance company Diff: 1 Page Ref: 4 Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 19) The main role of financial intermediaries is to A) provide advice to consumers on how they should handle their finances. B) provide funds to the federal government to cover the budget deficit. C) help ensure that there is enough money in circulation. D) borrow funds from savers and lend them to borrowers. 20) Financial intermediaries A) include the New York and American Stock exchanges. B) directly issue claims on individual borrowers to savers. C) include banks and other depository institutions. D) are owned and operated by the federal government. Diff: 1 Page Ref: 4 Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 16) 17) 18) 19) 20) 21) A "ʺprimary market"ʺ is a market A) in which newly issued claims are sold by savers to borrowers. B) for debt by large or "ʺprimary"ʺ corporations. C) in which newly issued claims are sold to buyers by borrowers. D) for government securities. Diff: 1 Page Ref: 9 Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 22) A bank lending depositors'ʹ money to a local business and a pension fund investing contributions in shares of a company are similar financial activities in that A) both involve a reduction in the overall level of liquidity in the financial system. B) both involve in an increase in the overall level of risk in the financial system. C) both involve the use of financial markets. D) both involve funds being channeled from savers to borrowers through financial intermediaries. Diff: 2 Page Ref: 4, 8 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 23) The leading federal regulatory body for financial markets in the United States is the A) Securities and Exchange Commission. B) Federal Financial Market Bureau. C) Investors Protection Agency. D) Federal Bureau of Investigation. Diff: 1 Page Ref: 10 21) 22) 23) Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 24) Economists define money as 24) A) cash in circulation. B) bonds issued by large corporations. C) anything that people are willing to accept in payment for goods and services or to pay off debts. D) deposits in commercial banks. Diff: 1 Page Ref: 3 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 25) The Federal Reserve System 25) A) is headed by the Secretary of the Treasury. B) is the central bank of the United States. C) is in charge of managing the New York Stock Exchange. D) is responsible for conducting fiscal policy for the United States. Diff: 1 Page Ref: 11 Topic: Federal Reserve Objective: Identify the key components of the financial system AACSB: Reflective Thinking 26) Monetary policy refers to the government'ʹs 26) A) plans for retiring the national debt. B) management of the money supply and interest rates to achieve macroeconomic objectives. C) decisions on how much money to collect in taxes. D) decisions on how much money to spend. Diff: 1 Page Ref: 11 Topic: Federal Reserve Objective: Identify the key components of the financial system AACSB: Reflective Thinking 27) Diversification refers to the 27) A) difference between the liquidity of an asset and its risk. B) difficulty of converting investments in common stocks into investments in bonds. C) difficulty of selling common stocks in a weak market. D) splitting of wealth into many assets. 28) The purpose of diversification is to A) increase the liquidity of a financial portfolio. B) reduce tax liability. C) reduce risk. D) reduce the brokerage fees involved in managing a financial portfolio. Diff: 1 Page Ref: 13 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 29) The financial system provides risk sharing by allowing A) borrowers to obtain funds either directly or indirectly. B) savers to earn interest tax-­‐free. C) savers to hold many assets. D) borrowers to convert liabilities into assets. Diff: 2 Page Ref: 13 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 30) Liquidity A) was declining for many financial assets during the 1990s. B) is a characteristic of money, and of no other asset. C) is the ease with which an asset can be exchanged for money. D) is the best available measure of the riskiness of an asset. Diff: 1 Page Ref: 13 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 31) Which of the following assets is the least liquid? A) treasury bond B) stock C) money market mutual fund D) house Diff: 1 Page Ref: 13 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 32) Increased liquidity in recent decades has reduced interest rates on which of the following assets (holding constant all other things that affect interest rates)? A) bonds issued by state governments B) business loans C) U.S. government bonds D) bonds issued by large corporations 28) 29) 30) 31) 32) 33) The financial system performs the role of communicating information by 33) A) incorporating all available information into the prices of financial assets. B) constantly increasing the liquidity of most assets. C) providing to investors for a nominal charge all government reports available about a particular company. D) constantly reducing the riskiness of most assets. 34) The distinguishing feature of a well-­‐functioning financial market is the A) continual reduction in the riskiness of most assets. B) increased ease of converting common stocks into bonds. C) continual increase in the liquidity of most assets. D) incorporation of available information into asset prices. Diff: 2 Page Ref: 14 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 35) In the United States, monetary policy is carried out by A) the Federal Reserve System. B) Congress and the President acting together. C) the President. D) Congress. Diff: 1 Page Ref: 11 Topic: Federal Reserve Objective: Identify the key components of the financial system AACSB: Reflective Thinking 36) In the United States, the lender of last resort is A) Fannie Mae. B) Securities and Exchange Commission. C) the Federal Deposit Insurance Corporation. D) the Federal Reserve. Diff: 1 Page Ref: 11 Topic: Federal Reserve Objective: Identify the key components of the financial system AACSB: Reflective Thinking 37) A decline in bank lending has the most significant effect on A) large businesses. B) federal government. C) small businesses. D) state governments. Diff: 2 Page Ref: 6 Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 34) 35) 36) 37) 38) What made the recession of 2007-­‐2009 different than any other recession since the Great Depression? A) it was accompanied by a financial crisis B) the Fed failed to reduce interest rates C) the impact was primarily limited to the financial sector D) the government did not implement a fiscal stimulus Diff: 2 Page Ref: 1 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 39) All of the following took place during the economic crisis that began in 2007 EXCEPT: A) there was a devastating decline in the production of goods and services throughout the economy B) large portions of the U.S. economy were cut off from the funds they needed to thrive C) the financial system was disrupted D) unlike households, most businesses still had easy access to funds Diff: 2 Page Ref: 1 Topic: financial system Objective: Identify the key components of the financial system AACSB: Reflective Thinking 40) Owners of small firms in countries with weak banking systems have to rely on funds from all of the following EXCEPT: A) the savings of relatives and friends B) their own savings C) global investors D) local lenders who charge high interest rates 41) All of the following accurately describe microlending EXCEPT: A) it involves small loans B) lending is primarily undertaken by the government C) many economists think it has aided economic growth in many low-­‐income countries D) the borrowers are people who are attempting to start or expand a small business Diff: 1 Page Ref: 6 Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 38) 39) 40) 41) 42) Which of the following does NOT describe the relationship between banks and small business during the 2000s (prior to the financial crisis)? A) Many small businesses were receiving loans from regional and national banks. B) Fewer small businesses received loans as banks shifted their focus to mortgages. C) More banks became convinced that it would be profitable to loosen their loan guidelines to make more borrowers eligible to receive credit. D) Banks typically applied fixed guidelines for granting loans, leaving little room for personal judgment. Diff: 2 Page Ref: 7 Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 43) The process by which investment banks guarantee a certain price to a firm issuing stocks or bonds is known as: A) securitization B) underwriting C) proprietary trading D) microlending Diff: 2 Page Ref: 8 Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 44) Investment banks do NOT engage in which of the following? A) securitization B) proprietary trading C) underwriting D) lending to households Diff: 2 Page Ref: 8 Topic: financial institutions Objective: Identify the key components of the financial system AACSB: Reflective Thinking 45) All of the following represent returns to savers EXCEPT: A) coupon payments on bonds B) interest on deposits C) dividends on stocks D) fees on loans 46) Fannie Mae and Freddie Mac both 50) A) help regulate the banking system. B) reduce access to funds for mortgages by purchasing existing mortgages. C) sell bonds to investors and use the funds to purchase mortgages. D) directly lend funds to people seeking mortgages. Diff: 2 Page Ref: 15 Topic: financial crisis Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 42) 43) 44) 45) 51) All of the following are examples of risky mortgages that became more common in the 2000s EXCEPT A) alt-­‐A mortgages. B) mortgages requiring down payments of at least 20%. C) adjustable-­‐rate mortgages with low rates for a few years and then higher rates in later years. D) subprime mortgages. Diff: 1 Page Ref: 16 Topic: financial crisis Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 52) Which of the following best describes a "ʺbubble"ʺ? A) when bond prices rise more quickly than stock prices B)an unsustainable increase in the price of a class of assets 51) 52) C) when the price of an asset reaches a new high D) rapid increases in inflation Diff: 1 Page Ref: 15 Topic: financial crisis Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 53) All of the following were significant changes in the mortgage market in the 2000s EXCEPT A) lenders loosened lending standards. B) borrowers tended to increase the amount of their down payments. C) mortgage-­‐backed securities became more popular with investors. D) investment banks became significant participants in the secondary mortgage market. Diff: 2 Page Ref: 15-­‐16 Topic: financial crisis Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 54) Which type of borrowers were least likely to default in their mortgage at the beginning of the financial crisis? A) those with fixed-­‐rate mortgages who made large down payments B) those with adjustable-­‐rate mortgages C) subprime borrowers D) those with alt-­‐A loans Diff: 1 Page Ref: 16 Topic: financial crisis Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 55) The Troubled Asset Relief Program (TARP) allowed 55) A) the Fed to make loans to banks as the lender of last resort. B) the Treasury to inject funds into commercial banks in return for stock in the banks. 53) 54) C) the Fed to provide funds to commercial banks in return for stock. D) the Treasury to insure bank deposits at major U.S. banks. Diff: 1 Page Ref: 17 Topic: financial crisis Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 56) Which firm did the Treasury allow to fail during the financial crisis? 56) A) J.P. Morgan B) American International Group (AIG) C) Bear Stearns D) Lehman Brothers Diff: 1 Page Ref: 17 Topic: financial crisis Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 57) Alt-­‐A borrowers were those who A) borrowed using "ʺinterest-­‐only"ʺ mortgages. B) did not provide documentation of their income when applying for a mortgage. C) chose adjustable-­‐rate mortgages instead of fixed-­‐rate mortgages. D) used mortgages to purchase apartments. Diff: 1 Page Ref: 16 Topic: financial crisis Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 58) The financial crisis of 2007-­‐2009 worsened after the failure of which firm? A) American International Group (AIG) B) General Motors C) Bear Stearns D) Lehman Brothers Diff: 1 Page Ref: 17 Topic: financial crisis Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 59) At the beginning of the financial crisis, banks were hurt by all of the following EXCEPT A) declines in the value of mortgage-­‐backed securities. B) holding too many Treasury bonds. C) defaults on mortgages by those with subprime mortgages. D) not being repaid on loans to real estate developers. Diff: 2 Page Ref: 17 Topic: financial crisis Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 57) 58) 59) 60) Borrowers who stated but did not document their incomes are referred to as: 60) A) alt A B) securitized C) adjustable D) subprime Diff: 1 Page Ref: 16 Topic: financial crisis of 2007-­‐2009 Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking 61) The Fed and Treasury took action to restore the flow of funds from savers to borrowers in order to 61) encourage all of the following EXCEPT: A) increase the likelihood of purchases of houses B) allow firms to finance purchases of structures and equipment C) increase the return to savers D) enable households to purchase durable goods Diff: 2 Page Ref: 18 Topic: financial crisis Objective: Provide an overview of the financial crisis of 2007-­‐2009 AACSB: Reflective Thinking Chapter 2 1) An important reason why economies at an early stage of development tend to operate inefficiently 1) is A) they tend to have authoritarian governments that stifle innovation. B) they tend to be dominated by the agricultural sector, where productivity is usually low. C) the high transactions costs associated with barter. D) they tend to be plagued by superstitious beliefs that stifle innovation. Diff: 2 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 2) By "ʺspecialization"ʺ economists mean a situation where 2) A) goods are traded directly for goods and money is not used. B) individuals produce the goods or services for which they have relatively the best ability. C) individuals who produce goods do not also produce services and individuals who produce services do not also produce goods. D) individuals are assigned to occupations on the basis of tests that gauge their relative abilities. Diff: 1 Page Ref: 26 Topic: specialization Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 3) The most important economic benefit from specialization is that it 3) A) eliminates the need for financial markets. B) makes it possible for an economy to begin using money. C) makes barter possible. D) leads to an increase in the standard of living in an economy. Diff: 2 Page Ref: 26 Topic: specialization Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 4) When an economy relies on specialization, 4) A) each individual in the economy produces the goods or services for which he or she has relatively the best ability. B) the economy will usually be heavily agricultural. C) each individual will be assigned by the government to produce that good or service the government believes the economy should specialize in. D) the economy will generally produce only one product. Diff: 2 Page Ref: 26 Topic: specialization Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 5) Fundamentally, to reap the benefits of specialization, an economy must 5) A) have an extensive system of higher education. B) develop ways for individuals to trade goods with one another. C) be heavily agricultural. D) be heavily industrial. Diff: 2 Page Ref: 26 Topic: specialization Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 6) Barter is 6) A) the basis for economic specialization. B) the main system of exchange in the United States today. C) another name for money. D) an exchange of goods and services directly for goods and services. Diff: 1 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 7) Under a system of barter 7) A) currency is accepted for purchases, but personal checks are not. B) goods may be traded for money, but money may not be traded for goods. C) each individual trades output directly with another. D) only agricultural goods may be traded. Diff: 1 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 8) Which of the following is an example of a barter transaction? 8) A) An individual pays her electric bill with a check. B) An individual provides three light bulbs to her neighbor in exchange for two gallons of milk. C) An individual pays her electric bill with currency. D) An individual deposits three twenty-­‐dollar bills in her checking account. Diff: 1 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 9) In a barter system individuals 9) A) will almost invariably specialize. B) find it impossible to specialize. C) find it difficult to specialize, but may be able to do so. D) must be entirely self-­‐sufficient. Diff: 2 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 10) A system of barter has substantial transactions costs because 10) A) the uncertainties of trade result in high legal fees being incurred to draw up binding contracts. B) taxes under such a system are generally a large fraction of the value of output. C) the uncertainties of trade result in high insurance premiums. D) traders must spend considerable time searching for trading partners. Diff: 2 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 11) Under a barter system A) each good has a single price. C) no prices for goods exist. B) prices for goods are very stable. D) each good has many prices. 11) Diff: 1 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 12) How many prices would there be in a barter economy with 100 goods? 12) A) 100 B) 1,000 C) 10,000 D) 4,950 Diff: 1 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 13) The problem of a double coincidence of wants refers to13) A) poorly-­‐managed companies producing what consumers want only by coincidence. B) the likelihood that needs will not be the same as wants. C) the insatiability of wants in a free market economy. D) the necessity in a barter system of each trading partner wanting what the other has to trade. Diff: 1 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 14) Andy can'ʹt make a deal with Danny. Andy has a Alex Rodriguez baseball card and would like to trade it to Danny for Danny'ʹs Albert Pujols card, but Danny doesn'ʹt want a Alex Rodriquez card. Andy'ʹs problem illustrates the drawback to a barter system known as A) the specialization problem. B) the transactions problem. C) the many prices problem. D) the double coincidence of wants problem. Diff: 2 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 14) 15) Which of the following is NOT a significant cost that a barter system imposes on an economy? A) Many prices must be maintained for each good. B) The costs arising from the problem of finding two people who each want what the other produces. C) Specialization of labor is hindered. D) Only agricultural goods may be traded. Diff: 1 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 16) Which of the following is the most efficient means of trade? A) government rationing B) barter C) money D) the combination of barter with some government rationing Diff: 1 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 17) In Moscow in 1989, what were taxi drivers using as a medium of exchange? A) Marlboro cigarettes B) Russian rubles C) gold coins D) caviar Diff: 1 Page Ref: 26 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 18) Money eliminates the need for A) people to have a double coincidence of wants. B) specialization. C) the market system. D) any government role in the economy. Diff: 1 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 15) 16) 17) 18) 19) Using a good as a medium of exchange confers the benefit that 19) A) the need for specialization is reduced. B) the need for a double coincidence of wants is greatly increased. C) the need to quote so many prices in trade is reduced. D) transactions costs are increased, but they now may be paid in money terms. Diff: 2 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 20) Commodity money can best be described as 20) A) standardized goods like gold that trade in a financial market B) a good used as money that also has value independent of its use as money C) the form of money used in a barter system D) money used to purchase agricultural products Diff: 2 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 21) Which of the following is NOT a problem with barter? 21) A) the commodity money having value for other uses besides money B) each good has multiple prices C) high transactions costs D) lack of standardization of products exchanged Diff: 2 Page Ref: 25 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 22) The introduction of money to an economy results in: 22) A) a more efficient barter system B) higher productivity C) increased specialization D) higher incomes Diff: 2 Page Ref: 26 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 23) Money can BEST be described as: 23) A) anything that is generally accepted as payment for goods and services or in the settlement of debts. B) any form of wealth possessed by consumers C) commodities that have intrinsic value D) paper that can be used to purchase goods and services Diff: 1 Page Ref: 24 Topic: barter Objective: Analyze the inefficiencies of a barter system AACSB: Reflective Thinking 24) Money is a medium of exchange in that 26) A) it must maintain most of its value over time. B) other assets may be better or worse in facilitating exchange than money. C) currency may be exchanged for gold at any national bank. D) money is generally accepted for buying and selling goods and services. Diff: 1 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 27) Money as a medium of exchange refers only to A) checks at commercial banks. B) currency. C) anything that is generally accepted as payment for goods and services. D) gold coins. Diff: 1 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 28) When economists refer to the role of money as a unit of account, they mean that A) money gives traders a way of measuring value in the economy. B) most accounting systems reflect that goods are purchased with currency. C) most accounting systems reflect that goods are purchased with checks. D) money makes it possible for specialization to take place. Diff: 1 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 29) When economists refer to the role of money as a store of value, they mean that A) the value of money falls only when the quantity of money in circulation falls. B) the value of money falls only when the quantity of money in circulation rises. C) money never loses its value, unlike other assets. D) money allows value to be stored easily. Diff: 1 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 30) An asset is A) the same thing as a liability. B) money, as opposed to stock or bonds. 27) 28) 29) 30) C) anything that never declines in value. D) a thing of value that can be owned. Diff: 1 Page Ref: 28 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 31) The attribute that distinguishes money from other assets is that only money 31) A) may be used as collateral for a bank loan. B) serves as a medium of exchange. C) is counted in determining the size of an individual'ʹs wealth. D) retains its value during times of inflation. Diff: 1 Page Ref: 28 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 32) Wealth is A) equal to income. B) a flow variable. C) the sum of the value of assets. D) the sum of the value of assets minus value of liabilities. Diff: 2 Page Ref: 28 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 33) The difference between money and income is that whereas income is an individual'ʹs A) stock of all assets, money is an individual'ʹs stock of currency and currency substitutes. B) stock of currency and currency substitutes, money is an individual'ʹs stock of all assets. C) flow of earnings over a period of time, money is an individual'ʹs stock of all assets. D) flow of earnings over a period of time, money is an individual'ʹs stock of currency and currency substitutes. Diff: 2 Page Ref: 28 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 32) 33) 34) In comparing money to shares of Apple stock, we can say that A) both money and shares of Apple stock are stores of value. B) money is a store of value, but shares of Apple stock are not. C) neither money nor shares of Apple stock are stores of value. D) shares of Apple stock are a store of value, but money is not. Diff: 2 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 35) Why do individuals hold money when it does not provide the services that, say, a house does? A) Money is the most liquid asset. B) Money is useful in avoiding taxes on certain transactions. C) Money increases in value faster than other assets. D) Money is the only form in which wealth may be held. Diff: 2 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 36) Other assets are inferior to money in the sense that A) they are more vulnerable to losing their real value as inflation increases. B) they have a lower overall return than money. C) they generate transactions costs when they are exchanged for money. D) they increase in value more slowly than does money. Diff: 2 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 37) When economists refer to the role of money as a standard of deferred payment, they mean that A) money today is worth less than money tomorrow. B) money earns interest while loan payments are deferred. C) payments by checks are usually deferred until the checks clear the bank. D) money provides a standard for payments that will occur in the future. Diff: 1 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 34) 35) 36) 37) 38) If prices increase rapidly A) deflation is likely. B) money increases in value. C) money'ʹs usefulness as a store of value is diminished. D) prices will decline to their normal level. Diff: 2 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 39) Suppose $100 buys less in the year 2013 than in 2000. Then we can say that A) money'ʹs store of value has decreased. B) money'ʹs store of value has increased. C) the economy must have been growing slowly between 2000 and 2013. D) the economy must have been growing rapidly between 2000 and 2013. Diff: 2 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 40) Which of the following is NOT an important criterion for whether a good will be usable as a medium of exchange? A) The good must have value even if it were not being used as money. B) The good must be valuable relative to its weight. C) The good must be of standardized quality. D) The good must be durable so that value is not lost through product spoilage. Diff: 2 Page Ref: 28 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 41) Which criterion for suitability as a medium of exchange do Federal Reserve Notes meet? A) They are acceptable to most traders. B) They are of standardized quality. C) They are durable. D) Federal Reserve Notes meet all of the criteria for suitability as a medium of exchange. Diff: 1 Page Ref: 28 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 38) 39) 40) 41) 42) What determines the acceptability of dollar bills as a medium of exchange? A) the willingness of the U.S. Treasury to redeem dollar bills for gold B) the public'ʹs fear that failing to accept dollar bills will trigger a hyperinflation C) the willingness of the Federal Reserve to redeem dollar bills for gold D) our society'ʹs willingness to use green paper notes issued by the Federal Reserve as money Diff: 2 Page Ref: 28 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 43) In what sense do self-­‐fulfilling expectations determine the acceptability of a medium of exchange? A) People like to do what the government expects them to do. B) People expect that eventually every country will use the same medium of exchange. C) People expect that money will never lose its value. D) People value something as money only if they believe others will accept it from them as payment. Diff: 2 Page Ref: 28 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 44) Fiat money 44) A) is illegal in most advanced, industrial countries. B) is money that would have no value if it were not usable as money. C) is usually some type of precious metal. D) will generally be accepted in trade for less than its face value. Diff: 1 Page Ref: 28 Topic: fiat money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 45) If money is declared to be legal tender, it must be 45) A) possible to exchange it for an equivalent amount of precious metal. B) accepted to settle private transactions and it must be used in paying taxes. C) acceptable to citizens of foreign countries. D) minted from a precious metal. Diff: 1 Page Ref: 28 Topic: fiat money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 42) 43) 46) By designating Federal Reserve currency as legal tender, the federal government 46) A) has guaranteed that Federal Reserve currency may be exchanged for an equivalent amount of gold or silver. B) has ensured that Federal Reserve currency will serve as money. C) has mandated that Federal Reserve currency be accepted by citizens of foreign countries in exchange for their countries'ʹ currencies. D) has mandated that Federal Reserve currency be accepted for payment of debts. Diff: 1 Page Ref: 28 Topic: fiat money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 47) What is the most important factor for Federal Reserve currency to be accepted as money? 47) A) the willingness of foreign businesses and banks to accept it in exchange for goods and services B) its designation as legal tender by the federal government C) its acceptance by businesses and households in the United States in exchange for goods and services D) the willingness of the federal government to accept it in exchange for an equivalent amount of gold or silver coins Diff: 2 Page Ref: 28 Topic: fiat money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 48) Which function of money eliminates the need for multiple prices for each good as in a barter system? A) unit of account B) standard of deferred payment C) valuable relative to its weight D) store of value Diff: 1 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 49) Which function of money allows for specialization to take place? A) medium of exchange B) standard of deferred payment C) store of value D) unit of account Diff: 1 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 48) 49) 50) Which function of money enhances the ability of households to accumulate wealth A) medium of exchange B) store of value C) does not become worn out too quickly D) valuable relative to its weight Diff: 1 Page Ref: 27 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 51) Money that has no value other apart from its use as money: A) will result in rapid inflation B) is known as commodity money C) will result in a return to a barter system D) is known as fiat money Diff: 1 Page Ref: 28 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 52) A person'ʹs earnings over a period of time is known as 50) 51) 52) A) wealth B) money C) income D) all of the above Diff: 1 Page Ref: 28 Topic: functions of money Objective: Discuss the four key functions of money AACSB: Reflective Thinking 53) The payments system is 58) A) the way in which economic transactions are carried out in a government-­‐controlled economy, such as the former Soviet Union. B) the mechanism for conducting economic transactions. C) the phrase used to describe how transactions are carried out in an economy that does not use money. D) another name for the system of foreign exchange rates. Diff: 1 Page Ref: 29 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 59) Which of the following is an example of a commodity money? A) Japanese yen notes B) British pound notes C) gold coins D) dollar bills Diff: 1 Page Ref: 30 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 60) All of the following are problems associated with commodity money EXCEPT A) costs are incurred in certifying the purity and weight of commodity money. B) its value is dependent on its purity. C) it is a cumbersome form of payments system. D) commodities tend to have little value in and of themselves. Diff: 2 Page Ref: 30 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 61) Which of the following is an example of fiat money? A) a gold coin used as money in nineteenth century England B) a pound of salt used as money in medieval France C) a Federal Reserve Note used as money in the twenty-­‐first century United States D) a cowry shell used as money on a South Pacific island Diff: 1 Page Ref: 30 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 62) Checks are 62) A) promises to pay coins minted from precious metals on demand. B) less important than currency as a means of settling transactions. C) promises to pay on demand money deposited with a financial institution. D) not acceptable for settling transactions in most industrialized countries. Diff: 1 Page Ref: 30 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 63) Which of the following is NOT a step involved in using checks? 63) A) The funds must be transferred from the recipient'ʹs bank to the checkwriter'ʹs bank. B) The recipient must take the check to the bank. C) The funds must be transferred from the checkwriter'ʹs bank to the recipient'ʹs bank. D) The bank must present the check to the checkwriter'ʹs bank. 59) 60) 61) Diff: 1 Page Ref: 30 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 64) The use of checks in transactions 64) A) entails lower information costs than the use of currency. B) entails fewer steps than settling transactions with currency. C) entails lower information and fewer steps than settling transactions with currency. D) avoids the cost of transporting currency back and forth. Diff: 2 Page Ref: 30 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 65) Automatic teller machines and debit cards are examples of 65) A) electronic funds transfer systems. B) modern barter systems. C) commodity monies. D) legal tender in the United States. Diff: 1 Page Ref: 30 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 66) All of the following are examples of electronic funds EXCEPT 66) A) e-­‐cash. B) debit cards. C) stored value cards. D) credit cards. Diff: 1 Page Ref: 30 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 67) What do many economists blame for the severity of the Great Depression? 67) A) The issuing of an excessively large amount of currency by the Federal Reserve. B) The collapse of the electronic funds transfer system. C) The collapse of the banking system. D) A rapid increase in the money supply. Diff: 1 Page Ref: 32 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 68) All of the following are characteristics of debit cards EXCEPT: 68) A) when used at a store, his bank instantly credits the store'ʹs account with the amount and deducts it from his account. B) they eliminate the problem of trust since the bank'ʹs computer authorizes the transaction C) they can be used like checks D) payments are deferred until a later date Diff: 1 Page Ref: 31 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 69) Which of the following statements about ACH transactions is false? 69) A) They typically involve digital cash. B) They reduce transactions costs associated with check processing. C) They reduce the costs that lenders incur in notifying customers of missed payments. D) They reduce the likelihood of missed payments. Diff: 2 Page Ref: 31 Topic: payments system Objective: Explain the role of the payments system AACSB: Reflective Thinking 70) As of October 2012, the amount of money as measured by M2 was about 71) A) $880 billion. B) $14 trillion. C) $1700 billion. D) $10.2 trillion. Diff: 1 Page Ref: 33 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 71) The M2 aggregate 72) A) equals currency plus checking account deposits at commercial banks. B) is the best definition of money purely as a medium of exchange. C) includes M1 plus short-­‐term investment accounts. D) includes M1 plus large-­‐denomination time deposits. Diff: 1 Page Ref: 33 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 72) Which of the following is NOT included in M2? 73) A) savings bonds B) currency C) overnight repurchase agreements D) money market deposit accounts Diff: 1 Page Ref: 33 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 73) Which of the following statements is true about M2? 74) A) Apart from those assets also included in M1, it includes no assets that offer check-­‐writing features. B) Its total value is smaller than that of M1. C) It includes large-­‐denomination time deposits. D) Its total value is about five times as large as M1. Diff: 1 Page Ref: 33 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 74) Which of the following is included in M1, but not in M2? 75) A) currency B) travelers checks C) checking account deposits D) Everything in M1 is in M2. Diff: 1 Page Ref: 33 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 75) Money market deposit accounts are included in 76) A) only M1. B) only M2. C) neither M1 nor M2. D) M1 and M2. Diff: 1 Page Ref: 33 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 76) Which of the following makes up the largest share of M2? 77) A) savings deposits B) small time deposits C) M1 D) money market mutual fund shares Diff: 2 Page Ref: 33 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 77) The Fed'ʹs current position towards the existing monetary aggregates is 78) A) it is convinced that M1 is the best measure of the money supply. B) it is reverting to considering currency alone as the best measure of the money supply. C) it is an issue of ongoing research. D) it is convinced that M2 is the best measure of the money supply. Diff: 2 Page Ref: 35 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 78) In July 2010, what was the total value of U.S. currency in circulation? 79) A) $1080 billion B) $150 billion C) $6 trillion D) $500 million Diff: 1 Page Ref: 33 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 79) A monetary aggregate is a measure of 80) A) the total economic activity of the country. B) the inflation rate. C) definitive money. D) money broader than currency. Diff: 1 Page Ref: 32 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 80) The narrowest money measure is 81) A) currency plus all deposits at financial institutions. B) definitive money. C) currency plus non-­‐interest bearing checking accounts. D) currency plus all checking accounts. Diff: 2 Page Ref: 32 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 81) Which of the following is the largest measure of money in the United States? 82) A) M1 B) M2 C) Federal Reserve notes D) definitive money Diff: 1 Page Ref: 33 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 82) Which of the following is NOT included in M1? 83) A) currency B) checking account deposits C) savings account deposits D) traveler'ʹs checks Diff: 1 Page Ref: 32 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 83) As of October 2012, approximately what portion of U.S. currency is held outside of the United 84) States? A) 1/10 B) 2/3 C) 1/3 D) 1/2 Diff: 1 Page Ref: 34 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 84) Which of the following is the largest component of M1? 85) A) traveler'ʹs checks B) checking deposits C) currency D) savings deposits Diff: 1 Page Ref: 33 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 85) Which of the following describes the behavior of M1 in recent decades? 86) A) it has not declined since the 1970s B) it was more stable than M2 C) it soared during the recessions of 1990-­‐91, 2001, and 2007-­‐2009 D) it tended to grow more rapidly than M2 Diff: 1 Page Ref: 35 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 86) Why has M2 grown more quickly than M1 in recent decades? 87) A) People own more shares of stock than in the past. B) Currency in circulation has declined. C) Most people use debit cards instead of checking accounts. D) The amount of funds in CDs and money market mutual funds shares has grown faster than currency or checking deposits. Diff: 2 Page Ref: 35 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 87) Which of the following countries does NOT use the U.S. dollar as its official currency? 88) A) Guatemala B) Panama C) Ecuador D) El Salvador Diff: 2 Page Ref: 34 Topic: monetary aggregates Objective: Explain how the U.S. money supply is measured AACSB: Reflective Thinking 88) Suppose the GDP implicit price deflator was 112.7 in 2013 and 116.0 in 2014. Therefore, the 91) inflation rate in 2014 would be A) 2.8%. B) 3.3%. C) 16%. D) 2.9%. Diff: 2 Page Ref: 37 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Analytic Skills 89) A hyperinflation occurs when 92) A) inflation persists for more than two years. B) inflation persists for more than five years. C) the inflation rate exceeds 50% per month D) the inflation rate exceeds 50% per year. Diff: 1 Page Ref: 39 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 90) When prices rise, the purchasing power of money 93) A) may rise, fall, or be unaffected depending upon circumstances. B) is unaffected. C) rises. D) falls. Diff: 2 Page Ref: 36 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 91) The purchasing power of money 94) A) rises when prices rise. B) rises when prices fall. C) is set by the Fed in January of each year. D) is constant. Diff: 2 Page Ref: 36 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 92) The velocity of money can best be described as 95) A) how quickly output is increasing. B) how quickly prices are increasing. C) the growth rate of the money supply. D) the number of times each dollar in the money supply is used to buy goods and services included in GDP. Diff: 1 Page Ref: 36 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 93) Suppose the GDP implicit price deflator was 112.7 in 2013 and 116.0 in 2014. Therefore, the 91) inflation rate in 2014 would be A) 2.8%. B) 3.3%. C) 16%. D) 2.9%. Diff: 2 Page Ref: 37 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Analytic Skills 94) A hyperinflation occurs when 92) A) inflation persists for more than two years. B) inflation persists for more than five years. C) the inflation rate exceeds 50% per month D) the inflation rate exceeds 50% per year. Diff: 1 Page Ref: 39 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 95) When prices rise, the purchasing power of money 93) A) may rise, fall, or be unaffected depending upon circumstances. B) is unaffected. C) rises. D) falls. Diff: 2 Page Ref: 36 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 96) The purchasing power of money 94) A) rises when prices rise. B) rises when prices fall. C) is set by the Fed in January of each year. D) is constant. Diff: 2 Page Ref: 36 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 97) The velocity of money can best be described as 95) A) how quickly output is increasing. B) how quickly prices are increasing. C) the growth rate of the money supply. D) the number of times each dollar in the money supply is used to buy goods and services included in GDP. Diff: 1 Page Ref: 36 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 96) According to the equation of exchange, the money supply times the velocity of money equals the A) price level. B) nominal GDP. C) growth rate of the money supply. D) real GDP. Diff: 2 Page Ref: 36 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the run AACSB: Reflective Thinking 97) According to the quantity theory of money, the growth rate of which of the following is zero? 96) 97) A) velocity B) money supply C) real GDP D) price level Diff: 2 Page Ref: 36 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 98) Suppose nominal GDP is $14 trillion and the money supply is $2 trillion. What is the velocity of 98) money? A) 12 B) 28 C) 7 D) 0.143 Diff: 2 Page Ref: 36 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Analytic Skills 99) According to the quantity theory of money, if the long-­‐run economic growth rate is 2.5%, by how 99) much should the Fed increase the money supply if it wants inflation to be 2%? A) 1.25% B) 4.5% C) 5% D) 0.5% Diff: 3 Page Ref: 37 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Analytic Skills 100) According to the equation of exchange, how can national income grow even though the amount of 100) money does not? A) price level increases B) velocity decreases C) velocity increases D) real GDP decrease Diff: 2 Page Ref: 36 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 101) Hyperinflations are usually caused by large budget deficits financed by A) raising taxes. B) selling bonds to private investors. C) selling bonds to the central bank. D) borrowing from commercial banks. Diff: 3 Page Ref: 40 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the run AACSB: Reflective Thinking 102) Which country experiencing hyperinflation in excess of 15 billion percent in 2008? 101) 102) A) Argentina B) Iceland C) Canada D) Zimbabwe Diff: 1 Page Ref: 39 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 103) Research has shown that nations with highly independent central banks tend to have low 103) A) inflation. B) economic growth. C) unemployment. D) interest rates. Diff: 3 Page Ref: 42 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 104) All of the following were took place during the German hyperinflation in the 1920s EXCEPT 104) A) some banks only made loans to customers who agreed to repay in terms of foreign currencies or commodities. B) banks reduced lending. C) households and firms increased their demand for loans. D) Deutsche Bank had to lay off many workers due to lack of business. Diff: 2 Page Ref: 40-­‐41 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 105) Who benefits from rising inflation? 105) A) those who already have fixed-­‐rate loans B) lenders considering whether to make new loans C) lenders that already made loans D) those considering taking out a loan Diff: 2 Page Ref: 23 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking 106) Evidence indicates that there'ʹs a strong relationship between money and inflation in: 106) A) long run, but not the short run B) neither the short nor the long run C) short run, but not the long run D) both the short and long run Diff: 2 Page Ref: 38 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the run AACSB: Reflective Thinking 107) In quantity theory terms, during a hyperinflation, 107) A) neither the money supply nor velocity increase rapidly B) money supply increases rapidly, but velocity does not C) both the money supply and velocity increase rapidly D) velocity increases rapidly, but money supply does not Diff: 2 Page Ref: 39-­‐40 Topic: equation of exchange and quantity theory Objective: Use the quantity theory of money to analyze the relationship between money and prices in the long run AACSB: Reflective Thinking Chapter 3 1) Suppose Matt'ʹs New Cars issues a bond in which they'ʹll need to pay $10,000 in one year, which1) includes 4% interest. How much will they receive for the bond? A) $10,400 B) $9,615 C) $10,000 D) $9,600 Diff: 2 Page Ref: 55 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Analytic Skills 2) Though Treasury bonds may have little default risk, what type of risk exists when current interest2) rates are low? A) interest-­‐rate risk B) present value risk C) price risk D) refinancing risk Diff: 1 Page Ref: 50 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Reflective Thinking 3) Which of the following will lead to a higher interest rate on a loan? 3) A) reduced likelihood of borrower not paying the loan B) increased perceived risk of default C) lower inflation D) lower opportunity cost Diff: 2 Page Ref: 51 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Reflective Thinking 4) The key to present value calculations is that they 4) A) provide a common unit for measuring funds at different times. B) provide accurate answers only in a low-­‐inflation environment. C) are appropriate only for funds in the same time period. D) provide accurate answers only in a high-­‐inflation environment. Diff: 2 Page Ref: 56 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Reflective Thinking 5) Compounding refers to 5) A) the paying back of both interest and principal during the life of a fixed payment loan. B) the calculation of interest rates after the compounding effect of taxes has been allowed for. C) the increased value of an investment that arises from the payment of periodic interest. D) the process of earning interest on both the interest and the principal of an investment. Diff: 2Page Ref: 52-­‐53 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Reflective Thinking 6) If you deposit $500 in a savings account at an annual interest rate of 5%, how much will you 6) have in the account at the end of five years? A) $392B) $550 C) $625 D) $638 Diff: 2Page Ref: 53 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Analytic Skills 7) If you deposit $10,000 in a savings account at an annual interest rate of 6%, how much will you have in the account at the end of three years? A) $10,600B) $11,800 C) $8,396 D) $11,910 Diff: 2Page Ref: 53 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Analytic Skills 8) $1 received n years from now has a value today of A) ($1 + i)/i. B) $1/(1 + i)n. C) ($1 + i)n/i. D) $1/(1 + i). Diff: 2Page Ref: 55 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Reflective Thinking 9) At an interest rate of 6%, how much will need to be invested today to have $10,000 in 5 years? A) $13,382B) $7,473 C) $5,000 D) $10,000 Diff: 2Page Ref: 55 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Analytic Skills 10) At an interest rate of 3%, what is the present value of $1000 to be received five years from now? A) $1,159B) $1,667 C) $850 D) $863 Diff: 2 Page Ref: 55 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Analytic Skills 7) 8) 9) 10) 11) If the annual interest rate is 8%, what would you expect to pay for a bond paying a lump sum of 11) $10,000 in ten years? A) $9,259 B) $4,632 C) $21,589 D) $10,000 Diff: 2 Page Ref: 55 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Analytic Skills 12) If the annual interest rate is 9%, what would you expect to pay for a bond paying a lump sum of 12) $10,000 in two years? A) $10,000 B) $8,417 C) $8,200 D) $11,881 Diff: 2 Page Ref: 55 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Analytic Skills 13) The price of a financial asset equals the 13) A) difference between the future value and present value of all payments B) present value of all future payments C) sum of all payments D) future value of all payments Diff: 1 Page Ref: 58 Topic: present value and future value Objective: Explain how the interest rate links present value with future value AACSB: Reflective Thinking 14) Simple loans and discount bonds differ from coupon bonds and fixed-­‐payment loans in that 18) A) interest on simple loans and discount bonds is taxable, while interest on coupon bonds and fixed-­‐ payment loans is not. B) interest on simple loans and discount bonds is paid in a single payment, while issuers of coupon bonds and fixed-­‐payment loans make multiple payments of interest and principal. C) interest on coupon bonds and fixed-­‐payment loans is taxable, while interest on simple loans and discount bonds is not. D) interest rates on simple loans and discount bonds are generally higher than interest rates on comparable coupon bonds and fixed-­‐payment loans. Diff: 2 Page Ref: 58-­‐60 Topic: debt instruments Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 19) Debt instruments are also called A) prospectuses. C) credit market instruments. Diff: 1 Page Ref: 58 Topic: debt instruments B) units of account. D) equities. 19) Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 20) A debt instrument represents A) an ownership claim by the purchaser on the issuer. B) an attempt by a borrower in default to restore his or her credit. C) a nontaxable asset, owned primarily by large corporations. D) a promise by a borrower to repay principal plus interest to a lender. Diff: 1Page Ref: 58 Topic: debt instruments Objective: Distinguish among different debt instruments and understand how their prices are determined 20) AACSB: Reflective Thinking 21) Issuers of coupon bonds A) make multiple payments of principal, but a single payment of interest. B) make a single payment of principal at the time the bond is issued and multiple payments of interest over the life of the bond. C) make a single payment of principal when the bonds matures, but multiple payments of interest over the life of the bond. D) make a single payment of interest and principal. Diff: 1 Page Ref: 59 Topic: coupon bonds Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 22) A simple loan involves A) no payment of interest by the borrower to the lender. B) payment only of principal. by the borrower to the lender at maturity. C) interest payments from the borrower to the lender periodically during the life of the loan. D) payment of interest by the borrower to the lender only at the time the loan matures. Diff: 1 Page Ref: 58 Topic: simple loan Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 23) The amount of funds the borrower receives from the lender with a simple loan is called the A) claim.B) principal. C) collateral. D) equity. Diff: 1 Page Ref: 58 Topic: simple loan Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 24) The total payment to a lender for a one-­‐period simple loan is A) (P + i)n.B) P + i. C) P(1 + i). D) i(1 + i). 21) 22) 23) 24) 25) Suppose First National Bank makes a one-­‐year simple loan of $1,000 at 7% interest to Harry'ʹs25) Restaurant. At the end of one year Harry'ʹs Restaurant will pay First National A) $1070.B) $1007. C) $1700. D) $934.58. Diff: 2 Page Ref: 59 Topic: simple loan Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Analytic Skills 26) The most common type of simple loan is a(an) A) mortgage loan from a bank. B) commercial loan from a bank. C) automobile loan from a bank. D) corporate bond. Diff: 1 Page Ref: 58 Topic: simple loan Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 27) A discount bond resembles a simple loan in that A) both have par values greater than their face values. B) both represent assets to the borrowers who issue them. C) the borrower repays in a single payment. D) the interest on neither is taxable. Diff: 1 Page Ref: 59 Topic: discount bond Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 28) A discount bond involves A) interest payments from the borrower to the lender periodically during the life of the loan. B) payment of interest by the borrower to the lender every six months during the life of the loan. C) payment by the borrower to the lender of the face value of the loan at maturity. D) no payment of principal by the borrower to the lender. Diff: 1 Page Ref: 59 Topic: discount bond Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 29) Which of the following is NOT a discount bond? A) a U.S. Treasury note B) a zero-­‐coupon bond C) a U.S. Treasury bill D) a U.S. savings bond 26) 27) 28) 29) 30) A coupon bond involves 30) A) interest and principal payments from the borrower to the lender periodically during the life of the loan. B) periodic payments by the borrower to the lender that include both principal and interest. C) periodic payments by the borrower to the lender that include principal, but not interest. D) interest payments from the borrower to the lender periodically during the life of the loan and payment by the borrower to the lender of the face value of the loan at maturity. Diff: 1 Page Ref: 59 Topic: coupon bonds Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 31) The coupon rate is the 31) A) annual coupon payment divided by the market value of the bond. B) annual coupon payment divided by the face value of the bond. C) difference between the face value of the bond and its par value. D) coupon paid every 6 months divided by par value. Diff: 1 Page Ref: 59 Topic: coupon bonds Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 32) Which of the following is a coupon bond? 32) A) a zero-­‐coupon bond B) a U.S. savings bond C) a U.S. Treasury note or bond D) a U.S. Treasury bill Diff: 1 Page Ref: 60 Topic: coupon bonds Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 33) Which of the following is NOT true of a fixed payment loan? 33) A) The borrower is left with a substantial unpaid principal at the maturity of the loan. B) The payments made by the borrower include both interest and principal. C) The borrower is required to make regular periodic payments to the lender. D) A home mortgage is an example of fixed payment loan. Diff: 2Page Ref: 60 Topic: fixed-­‐payment loan Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 34) Which of the following is a fixed payment loan? 34) A) a home mortgage B) a U.S. Treasury note C) a zero-­‐coupon bond D) a U.S. Treasury bill Diff: 1Page Ref: 60 Topic: fixed-­‐payment loan Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 35) Which of the following is NOT a fixed payment loan? A) a car loan B) a student loan C) a home mortgage D) a U.S. Treasury note Diff: 1Page Ref: 59-­‐60 Topic: fixed-­‐payment loan Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 36) Suppose a coupon bond with a par value of $1000 is currently priced at $950 and has a coupon of $40. Which of the following is true? A) current yield > coupon rate B) coupon rate has risen C) coupon rate has declined D) current yield < coupon rate Diff: 1Page Ref: 59-­‐60 Topic: debt instruments Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Analytic Skills 37) When the price of a coupon bond increases, A) the coupon rate declines B) the current yield declines C) the coupon rate increases D) the current yield increases Diff: 2Page Ref: 59-­‐60 Topic: debt instruments Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Analytic Skills 38) The current yield is equal to A) the coupon divided by the market price of the bond. B) the coupon divided by the par value of the bond. C) the yield to maturity, if the bond is a coupon bond. D) the market price of the bond divided by its par value. Diff: 1 Page Ref: 60 Topic: coupon bonds Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 35) 36) 37) 38) 39) 39) A coupon bond has an annual coupon of $75, a par value of $1000, and a market price of $900. Its current yield equals A) 7.50%. B) 8.33%. C) its yield to maturity. D) Not enough information has been provided to calculate the current yield for this bond. 40) Which of the following is NOT fixed on a coupon bond? A) coupon rate B) par value C) coupon D) market price Diff: 1 Page Ref: 59 Topic: coupon bonds Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 41) Which of the following is fixed on a coupon bond? A) yield to maturity B) market price C) current yield D) coupon rate Diff: 1 Page Ref: 59 Topic: coupon bonds Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 42) Which of the following involves payment of part of the face value or principal prior to maturity? A) fixed-­‐payment loan B) coupon bond C) simple loan D) discount bond Diff: 2Page Ref: 60 Topic: debt instruments 40) 41) 42) Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 43) Which of the following is NOT a fixed-­‐payment loan? A) mortgage B) student loan C) car loan D) corporate bond Diff: 2Page Ref: 60 Topic: fixed-­‐payment loan Objective: Distinguish among different debt instruments and understand how their prices are determined AACSB: Reflective Thinking 43) 44) Which of the following is a consequence of extending the payback period of a student loan from 10 44) to 30 years? A) lower monthly payments initially, but higher monthly payments in the future B) higher monthly payments C) more interest paid over the life of the loan D) faster payoff of principal 49) Suppose Matt'ʹs New Cars issues and sells a one-­‐year discount bond for $9,259 and repays $10,000 49) at maturity. The interest rate on this bond would be A) 10%. B) 7.41%. C) 2.6%. D) 8%. Diff: 2 Page Ref: 64 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Analytic Skills 50) The yield to maturity is equal to A) any payments received from an asset at the date the asset matures. B) the face value or par value of a coupon bond. C) interest rate on the asset minus any taxes owed on the interest received. D) the interest rate at which the present value of an asset'ʹs returns is equal to its price today. Diff: 1Page Ref: 63 50) 51) For simple loans, the yield to maturity A) is always equal to the specified simple interest rate. B) is always greater than the specified simple interest rate. C) is always less than the specified simple interest rate. D) may be less than, greater than, or equal to the specified simple interest rate, depending on the maturity of the loan. Diff: 2Page Ref: 64 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Reflective Thinking 52) What is the yield to maturity on a simple loan that requires payment of $500 plus $30 in interest one year from now? A) 6% B) 5.3% C) 6.38% D) Not enough information has been provided to determine the answer. Diff: 1Page Ref: 64 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Analytic Skills 53) The yield to maturity on a new one-­‐year discount bond equals A) (FV -­‐ P)/FV. B) (F V-­‐ P)/P. C) (D -­‐ FV)/P. D) (P -­‐ FV)/FV. Diff: 1Page Ref: 64 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Reflective Thinking 54) A one-­‐year discount bond with a par value of $5000 sold today, at issuance, for $4750 has a yield to maturity of A) 5.26%.B) 2.50%. C) 5.00%. D) 9.75%. Diff: 2 Page Ref: 64 Topic: yield to maturity 51) 52) 53) 54) Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Analytic Skills 55) A one-­‐year discount bond with a par value of $1000 sold today, at issuance, for $943 has a yield to55) maturity of A) 4.30%.B) 9.43%. C) 6.04%. D) 5.70%. Diff: 2Page Ref: 64 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Analytic Skills 56) On a coupon bond, the yield to maturity A) equals the coupon payment divided by the current price of the bond. B) increases when the market price of the bond increases. C) always equals the coupon rate. D) equates the present value of all the bond'ʹs payments to its price today. Diff: 1Page Ref: 63 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Reflective Thinking 57) What is the price of a coupon bond that has annual coupon payments of $85, a par value of $1000, a yield to maturity of 10%, and a maturity of three years? A) $211.38B) $1255.0 C) $898.84 D) $962.70 Diff: 2Page Ref: 63 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Analytic Skills 58) What is the price of a coupon bond that has annual coupon payments of $75, a par value of $1000, a yield to maturity of 5%, and a maturity of two years? 56) 57) 58) A) $1150.00 B) $1046.49 C) $1000.00 D) $1043.08 Diff: 2Page Ref: 63 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Analytic Skills 59) What is the yield to maturity of a consol with a coupon of $85 and a price of $944.44? A) 8.50% B) 9.00% C) 5.56% 59) D) Not enough information has been provided to determine the answer. Diff: 3 Page Ref: 65 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Analytic Skills 60) If i is the yield to maturity of a fixed-­‐payment loan, 60) A) the value of the loan today equals i times the sum of the values of all the loan payments. B) the value of the loan today equals the sum of the values of the loan payments. C) the value of the loan today equals the present value of the loan payments discounted at rate i. D) i equals the present value of the loan payments. Diff: 2 Page Ref: 65 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Reflective Thinking 61) If the current price of a bond is greater than its face value A) the coupon rate must be equal to the current yield. B) the yield to maturity must be less than the coupon rate. C) the coupon rate must be less than the current yield. D) an investor will receive a capital gain by holding the bond until maturity. Diff: 2Page Ref: 63 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Reflective Thinking 61) 62) Unless otherwise indicated, when economists or investors refer to the interest rate on a financial 62) asset, they referring to the: A) yield to maturity B) prime rate C) current yield D) coupon rate Diff: 2Page Ref: 63 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Reflective Thinking 63) Which of the following represents the equation that would be used to determine the yield to maturity of a three-­‐year fixed payment loan of $1400 which has payments of $500 per year? A) $1400 = $500/(1+i)3 B) $1400 = $500/(1+i) + $500/(1+i)2 + $500(1+i)3 + 1400/(1+i)3 C) $1400 = $500/(1+i) + $500/(1+i)2 + $500/(1+i)3 D) i = (1400-­‐500)/1400 Diff: 2 Page Ref: 66 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Analytic Skills 64) Which of the following represents the equation that would be used to determine the yield to maturity of a corporate bond with a face value of $1000, price of $1100, coupon rate of 5%, and maturity in three years? A) $1100 = $1500/(1 + i)3 B) $1100 = $500/(1 + i) + $500/(1 + i)2 + 1000/(1 + i)3 C) $1100 = $500/(1 + i) + $500/(1 + i)2 + 1500/(1 + i)3 D) $1100 = $500/(1 + i) + $500/(1 + i)2 + 500/(1 + i)3 Diff: 2 Page Ref: 66 Topic: yield to maturity Objective: Explain the relationship between the yield to maturity on a bond and its price AACSB: Analytic Skills 65) A bond'ʹs price and its yield to maturity are inversely related because 68) A) discounting future payments at a higher rate reduces the present value of the payments. B) discounting future payments at a higher rate increases the present value of the payments. C) a fall in a bond'ʹs price will lower its par value and hence its yield to maturity. D) an increase in the yield to maturity will lower a bond'ʹs coupon rate and hence its price. Diff: 2 Page Ref: 67-­‐68 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Reflective Thinking 69) An speculator who buys a fifty-­‐year corporate bond A) must be expecting to still be alive in fifty years. B) is probably expecting market interest rates to increase in the future. C) is probably expecting market interest rates to decrease in the future. D) is subject to substantial reinvestment risk. Diff: 2Page Ref: 68 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Reflective Thinking 69) 70) Which of the following types of mortgage loans became more common during the housing boom of the early-­‐to-­‐mid 2000s? A) prime Mortgages B) those with flawed credit histories C) those with down payments of at least 20% D) thirty-­‐year, fixed-­‐rate mortgages Diff: 2Page Ref: 68 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Reflective Thinking 70) 71) Banks who held mortgage-­‐backed securities "ʺtook a bath"ʺ during the financial crisis of 2007-­‐2009 71) due to: A) rising yields in secondary markets which led to a decline in the price of mortgage-­‐backed securities. B) more rapid pre-­‐payment of mortgages. C) falling yields in secondary markets which led to a decline in the price of mortgage-­‐backed securities. D) their inability to issue new mortgages. Diff: 2Page Ref: 68 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Reflective Thinking 72) A capital gain occurs when the A) coupon rate increases. B) price of an asset increases. 72) C) current yield increases. D) yield to maturity increases. Diff: 1 Page Ref: 69 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Reflective Thinking 73) The bid price for a bond is A) the price that you must pay a securities dealer to purchase a bond. B) the maximum price that you are allowed to bid for a bond that is being auctioned by the government. C) the minimum price that you are allowed to bid for a bond that is being auctioned by the government. D) the price that you will receive from a securities dealer if you sell the bond. Diff: 2Page Ref: 71 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Reflective Thinking 74) With respect to U.S. Treasury bills, A) the asked price is only greater than the bid price if investors expect interest rates to decline in the future. B) the asked price is always greater than the bid price. C) the bid price is always greater than the asked price. D) the bid price is only greater than the asked price if investors expect interest rates to decline in the future. Diff: 2Page Ref: 71 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Reflective Thinking 75) If, while you are holding a coupon bond, its market price falls, you can be sure that A) the interest rate on other similar bonds must have risen. B) the coupon payment you are receiving must have been reduced. C) the par value of the bond must have declined. D) the interest rate on other similar bonds must have fallen. Diff: 2Page Ref: 68 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Analytic Skills 76) If, while you are holding a coupon bond, the interest rates on other similar bonds fall, you can be sure that A) the coupon payments on your bond will fall. B) the market price of your bond will fall. C) the par value of your bond will rise. D) the market price of your bond will rise. Diff: 2 Page Ref: 68 Topic: bond prices and interest rates 73) 74) 75) 76) Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Analytic Skills 77) What is the yield on a discount basis for a U.S. Treasury bill that has a face value of $10,000, has a 77) price of $9500, and will mature in 180 days? A) 5.00%B) 10.00% C) 5.25% D) 10.67% Diff: 3Page Ref: 72 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Analytic Skills 78) In comparing the yield to maturity on a Treasury bill with the yield on a discount basis on the same bill, we can say that the yield to maturity A) will always be greater than the yield on a discount basis. B) rises whenever the yield on a discount basis falls. C) will always be equal to the yield on a discount basis, provided the holding period is the same as the number of years to maturity. D) will always be less than the yield on a discount basis. Diff: 3Page Ref: 71 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Reflective Thinking 79) Which of the following will result in a decrease in the price of an existing corporate bond? A) new bonds issued at a lower interest rate B) lower expectations of inflation C) increased default risk D) all of the above Diff: 2Page Ref: 67 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Reflective Thinking 78) 79) 80) As the housing bubble began to burst in 2006-­‐2008, investors would only buy mortgage-­‐backed80) securities at high yields to compensate for higher perceived default risk. As a result:: A) funds available for mortgages increased B) banks suffered significant capital losses as the value of their holdings of mortgage-­‐backed securities declined C) the price of mortgage-­‐backed securities tended to rise due to the higher yields D) bank profits rose as they earned higher interest on mortgages Diff: 2Page Ref: 68-­‐69 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Analytic Skills 81) How long does it take prices of securities to adjust so as to eliminate arbitrage profits? A) days B) hours C) months D) seconds 81) 85) The rate of return is equal to the A) sum of the current yield and the actual rate of capital gain or loss. B) sum of the coupon rate and the current yield. C) sum of the current yield and the expected rate of capital gain. D) yield to maturity. Diff: 1Page Ref: 74 Topic: rate of return Objective: Explain the difference between interest rates and rates of return AACSB: Reflective Thinking 86) What is the rate of return on a bond with a coupon of $55 that was purchased for $900 and sold one year later for $950? A) 5.56%B) 6.11% C) 12.43% D) 11.67% Diff: 3 Page Ref: 73 Topic: rate of return Objective: Explain the difference between interest rates and rates of return AACSB: Analytic Skills 87) Which of the following statements about the rate of return is NOT correct? 87) A) The total rate of return is greater than the coupon, holding everything else constant. B) The total rate of return may never be negative. C) The total rate of return may be greater or less than the current yield. D) The total rate of return may be greater or less than the rate of capital gain. Diff: 2 Page Ref: 73 Topic: rate of return Objective: Explain the difference between interest rates and rates of return AACSB: Reflective Thinking 88) The rate of return is equal to 88) A) the coupon rate plus the rate of capital gains. B) the coupon rate plus the current yield. C) the coupon rate multiplied by the rate of capital gains. D) the current yield plus the rate of capital gains. Diff: 2 Page Ref: 74 Topic: rate of return Objective: Explain the difference between interest rates and rates of return AACSB: Reflective Thinking 89) If the current price of a bond is equal to its face value, 89) A) the current yield must be greater than the coupon rate. B) the yield to maturity must be greater than the current yield. C) the coupon rate must be greater than the yield to maturity. 85) 86) D) there is no capital gain or loss from holding the bond until maturity. Diff: 2 Page Ref: 73 Topic: rate of return Objective: Explain the difference between interest rates and rates of return AACSB: Reflective Thinking 90) If the current price of a bond is less than its face value, 90) A) an investor will receive a capital gain by holding the bond until maturity. B) the coupon rate must be greater than the current yield. C) the yield to maturity must be less than the current yield. D) the coupon rate must be equal to the current yield. Diff: 2 Page Ref: 73 Topic: rate of return Objective: Explain the difference between interest rates and rates of return AACSB: Reflective Thinking 91) For a specific change in the yield to maturity A) the shorter the time until a bond matures, the greater will be the change in its price. B) the longer the time until a bond matures, the greater will be the change in its par value. C) the longer the time until a bond matures, the greater will be the change in its price. D) the shorter the time until a bond matures, the greater will be the change in its coupon rate. Diff: 2Page Ref: 74 Topic: bond prices and interest rates Objective: Explain the difference between interest rates and rates of return AACSB: Reflective Thinking 91) 92) If an investor is certain that market interest rates will decline in the future, which of the following 92) will she be most likely to purchase? A) a six-­‐month government bill B) a ten-­‐year government bond C) a fifty-­‐year government bond D) a two-­‐year government note Diff: 2Page Ref: 74 Topic: bond prices and interest rates Objective: Explain the difference between interest rates and rates of return AACSB: Reflective Thinking 93) What is the rate of return on a bond with a coupon of $38 payable in one year that was purchased for $950 and sold one year later for $931? A) 4%B) 6% C) 2% D) 19% Diff: 3Page Ref: 73 Topic: rate of return Objective: Explain the difference between interest rates and rates of return AACSB: Analytic Skills 94) Interest-­‐rate risk can best be characterized as the risk that A) fluctuations in the price of a financial asset in response to changes in market interest rates. B) you could have gotten a lower interest rate if you waited to lock in a mortgage. C) short-­‐term interest rates may exceed long-­‐term interest rates. D) you could have earned a higher interest rate if you waited to purchase a bond. Diff: 2Page Ref: 74 Topic: rate of return Objective: Explain the difference between interest rates and rates of return AACSB: Reflective Thinking 95) U.S. Treasury bonds A) are subject to fluctuations in their market prices and are therefore risky investments. B) have constant coupon rates and are therefore not risky investments. C) carry no risk of default and are therefore not risky investments. 93) 94) 95) D) have constant yields to maturity and are therefore not risky investments. Diff: 2 Page Ref: 75 Topic: bond prices and interest rates Objective: Understand the inverse relationship between bond prices and bond yields AACSB: Reflective Thinking 96) Why isn'ʹt the current yield a good indicator of holding a bond? A) It doesn'ʹt account for capital gains or losses. B) It doesn'ʹt account for the coupon. C) It assumes that the current price equals its par value. D) It doesn'ʹt account for the yield to maturity. Diff: 2Page Ref: 74 Topic: rate of return Objective: Explain the difference between interest rates and rates of return AACSB: Reflective Thinking 97) How can a bond have a negative rate of return? A) if the current yield is less than the coupon rate B) if the rate of capital loss exceeds the current yield C) if the rate of capital gains is less than the current yield 96) 97) D) if the current yield is greater than the coupon rate 98) The expected real interest rate approximately equals 100) A) the nominal interest rate minus the expected rate of inflation. B) the nominal interest rate minus the tax rate. C) the nominal interest rate plus the expected rate of inflation. D) the yield to maturity on a coupon bond held to maturity. Diff: 1 Page Ref: 76 Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Reflective Thinking 101) Which of the following is the correct expression for the approximate expected real interest rate? A) r = i + peB) r = i/pe C) r = ipe D) r = i -­‐ pe Diff: 1Page Ref: 76 Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Reflective Thinking 102) A sustained decrease in the price level is known as A) reflation.B) disinflation. C) deflation. D) inflation. Diff: 1Page Ref: 77 Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Reflective Thinking 103) Nominal interest rates are higher than real interest rates as long as A) inflation is expected to decline in the future. B) the government taxes interest income. C) long-­‐term interest rates are higher than short-­‐term interest rates. D) expected inflation is positive. Diff: 1Page Ref: 76 Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Reflective Thinking 104) Why may investors buy a Treasury bill with a negative real interest rate? A) fear of default by the U.S. government B) concern about high yields on other bonds C) concern about the high default risk of alternative investments D) fear of rising inflation Diff: 2Page Ref: 77 Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Reflective Thinking 105) Suppose you have a fixed-­‐rate mortgage with a nominal interest rate of 6% and the expected annual inflation rate over the life of the mortgage is 2%. What is the expected real interest rate? A) 4% B) 8% C) 3% D) 12% Diff: 2Page Ref: 76 101) 102) 103) 104) 105) Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Analytic Skills 106) A borrower and a lender agree on a mortgage interest rate. If inflation turns out to be less than106) expected A) the actual nominal interest rate will be less than expected. B) the actual nominal interest rate will be higher than expected. C) the actual real interest rate will exceed the expected real interest rate. D) the actual real interest rate will be less than the expected real interest rate. Diff: 2Page Ref: 76 Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Analytic Skills 107) Which type of bond would you purchase if you expected higher rates of inflation during the life of 107) the bond? A) corporate bond B) municipal bond C) TIPSD) Treasury bond Diff: 2Page Ref: 78 Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Reflective Thinking 108) How are TIPS adjusted for inflation? A) The interest rate is adjusted once the bond reaches maturity. B) The interest rate is adjusted for inflation during each period. C) The principal is adjusted once the bond reaches maturity. D) The principal is adjusted for inflation each period. Diff: 2Page Ref: 78 Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Reflective Thinking 109) Which group is hurt by inflation being less than expected? A) holders of TIPS B) borrowers with fixed-­‐rate mortgages C) lenders of fixed-­‐rate mortgages D) all of the above Diff: 2Page Ref: 76, 78 Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Reflective Thinking 110) If the real interest rate is 2% and expected inflation is 2%, the nominal interest rate is: A) 4% B) 0% C) 2% D) 1% Diff: 2Page Ref: 76 108) 109) 110) Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Analytic Skills 111) If the real interest rate is -­‐1.4% and the nominal interest rate is 0.6%, expected inflation equals 111) A) 2% B) -­‐0.8% C) 0.8% D) -­‐2% Diff: 3Page Ref: 76 Topic: real and nominal interest rates Objective: Explain the difference between nominal interest rates and real interest rates AACSB: Analytic Skills Chapter 4 1) Investors value liquidity in an asset because 1) A) whereas liquid assets have high information costs, their low risk offsets this. B) liquid assets incur lower selling costs. C) liquid assets incur lower tax liabilities. D) liquid assets tend to have high rates of return. Diff: 2 Page Ref: 92 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 2) A portfolio is a 2) A) collection of assets. B) brokerage house specializing in the trading of corporate bonds. C) brokerage house specializing in the trading of common stock. D) measure of the risk involved with a holding a particular asset. Diff: 1 Page Ref: 88 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 3) Economists believe that as a saver'ʹs wealth increases, the saver will generally 3) A) decrease the fraction held as corporate bonds. B) increase the fraction of wealth held as common stock. C) increase his or her holdings of all assets proportionately. D) increase the fraction of wealth held as cash. Diff: 2 Page Ref: 89 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 4) As wealth decreases, which of the following is likely to account for a smaller fraction of a saver'ʹs 4) portfolio? A) cash B) corporate bonds C) stocks D) U.S. government securities Diff: 2 Page Ref: 89 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 5) As wealth decreases, which of the following is likely to account for a larger fraction of a saver'ʹs 5) portfolio? A) checking account balance B) corporate bonds C) corporate stock D) U.S. government securities Diff: 2 Page Ref: 89 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 6) The average investor must weigh the benefits of liquidity against 6) A) the lower returns on liquid assets. B) the high taxes generally levied on liquid assets. C) the high transactions costs involved in disposing of liquid assets. D) the greater variability in the nominal returns on liquid assets. Diff: 2 Page Ref: 92 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 7) Why do CDs have lower rates of return than stocks? 7) A) CDs are less risky than stocks. B) CDs are not taxed while stock s returns are taxable. C) CDs are much riskier investments than stocks. D) CDs are not as liquid as stocks. Diff: 2 Page Ref: 91 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 8) Which of the following can best be characterized as a "ʺBlack Swan"ʺ event? 8) A) a financial crisis causing credit to dry up B) rising market interest rates as the Fed tightens monetary policy C) an individual firm unexpectedly filing for bankruptcy D) decline in stock prices due to a recession Diff: 2 Page Ref: 91 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 9) In an article, "ʺPreparing for the Next Black Swan"ʺ (Wall Street Journal, Aug 21, 2010), the point is 9) made that diversification may be insufficient in protecting one'ʹs portfolio during a "ʺBlack Swan"ʺ event. Why may this be true? A) virtually all asset classes may decline at the same time B) some assets may rise while others decline during a "ʺBlack Swan"ʺ event C) Black Swan events are surprises and thus one cannot prepare for such an event. D) investors may be unable to buy different assets during a "ʺBlack Swan"ʺ event Diff: 2 Page Ref: 91 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 10) Suppose there'ʹs a 50% chance of a stock rising by 20% and a 50% chance of it falling by 20%. What is the expected rate of return on the stock? A) 20% B) 0% C) 10% D) -­‐20% Diff: 2 Page Ref: 89 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Analytic Skills 11) Suppose there'ʹs an 80% chance of a stock rising by 20% and a 20% chance of it falling by 40%. What is the expected rate of return on the stock? A) -­‐40% B) 16% C) 8% D) -­‐20% Diff: 2 Page Ref: 89 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Analytic Skills 10) 11) 12) As a person'ʹs wealth increases, which of the following portfolio holdings is likely to increase the 12) least? A) money market fund B) stocks C) checking account D) bonds Diff: 2 Page Ref: 89 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 13) Suppose there'ʹs an 80% chance of a stock rising by 20% and a 20% chance of it falling by 40%. Which type of investor would prefer an investment with a guaranteed return of 5%? A) risk averse investor B) risk loving investor C) risk neutral investor D) risk is not relevant in this example Diff: 2 Page Ref: 91 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Analytic Skills 13) 14) Given that most investors tend to be risk averse, A) it must be a superior strategy compared to one that is risk loving. B) no one buys risky assets. C) low risk assets provide the best return. D) there'ʹs a trade-­‐off between risk and return. Diff: 2 Page Ref: 91 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 15) Which of the following financial assets has both the highest risk and highest return for the period of 1926-­‐2011? A) large company stocks B) Treasury bills C) corporate bonds D) small company stocks Diff: 1 Page Ref: 91 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 16) Which best describes the relationship between the cost of acquiring information and return? A) A higher return results in a lower cost of acquiring information. B) A low cost of acquiring information corresponds with a high return. C) A high return must compensate for a high cost of acquiring information. D) A higher cost of information corresponds with a low return. Diff: 1 Page Ref: 93 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 17) Since all assets typically do not move together, how can investors typically reduce risk? A) Diversify one'ʹs portfolio across different asset classes. B) Avoid poor performing assets. C) Actively manage one'ʹs portfolio. D) Purchase only the best performing assets. Diff: 1 Page Ref: 92 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 18) Risk that is common to all assets of a certain type is referred to as A) structural risk. B) unsystematic risk. C) idiosyncratic risk. D) systematic risk. Diff: 1 Page Ref: 94 14) 15) 16) 17) 18) Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 19) Suppose that you own $10,000 worth of stock in General Motors. Adding stock in which of the 19) following companies would be least likely to reduce the risk in yourD) Ford portfolio? A) General Electric B) Walmart C) Google Diff: 1 Page Ref: 94 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 20) Which combination of assets represents the most diversification? A) holding shares of Google and Microsoft B) holding corporate and Treasury bonds C) holding shares of Google and Yahoo D) holding shares of Google along with Treasury bonds Diff: 2 Page Ref: 94 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 21) Which is the best example of idiosyncratic risk? A) a financial crisis B)a recession C) a lawsuit because the corporation produced a faulty product D) rising interest rates Diff: 1 Page Ref: 94 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 22) An investor who desired the ability to have quick and easy access to cash would prefer to hold which type of asset? A) any form of bond B) liquid C) risky D) tax free Diff: 2 Page Ref: 92 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 23) The wealth of most people declined as a result of the financial crisis of 2007-­‐2009. As a result, which asset was most likely became a larger portion of their portfolio? A) stocks B) house C) bonds D) checking account Diff: 2 Page Ref: 89 20) 21) 22) 23) Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 24) An investor who bases the decision to buy an asset solely on the expected return of an asset is24) considered to be: A) risk averse B) risk avoiding C) risk neutral D) risk loving Diff: 2 Page Ref: 91 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 25) Which of the following assets had both the lowest average annual return and lowest risk between 25) 1926 and 2011? A) long-­‐term corporate bonds B) small company stocks C) large company stocks D) U.S. Treasury bills Diff: 2 Page Ref: 91 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 26) Which type of investor is most likely to have a diversified portfolio? A) risk tolerant B) risk neutral C) risk averse Diff: 2 Page Ref: 91, 93 Topic: portfolio choice D) risk loving 26) Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 27) Diversification is most effective in reducing: A) market risk B) all forms of risk C) idiosyncratic risk D) systemic risk Diff: 2 Page Ref: 94 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 27) 28) In November 2012, HP claimed that they had weak earnings due to questionable accounting by a28) company that they had taken over. This is an example of: A) idiosyncratic risk B) liquidity risk C) systemic risk D) market risk Diff: 2 Page Ref: 94 Topic: portfolio choice Objective: Discuss the most important factors in building an investment portfolio AACSB: Reflective Thinking 29) The bond demand curve slopes down because 36) A) the lender is willing and able to purchase more bonds when the price of the bond is low. B) the borrower is willing and able to purchase more bonds when the price of the bond is low. C) interest rates decline as bond prices decline. D) when bond prices are low, inflation is low. 37) The formula for the yield to maturity, i, on a discount bond is A) i = (Discount price -­‐ Face value)/Discount price. B) i = (Face value -­‐ Discount price)/Discount price. C) i = (Discount price -­‐ Face value)/Face value. D) i = (Face value -­‐ Discount price)/Face value. Diff: 2 Page Ref: 96 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 38) A one-­‐year discount bond with a face value of $1000 that is currently selling for $900 has an interest rate of 37) 38) A) 5.26%. B) 100%. C) 10%. D) 11.1%. Diff: 1 Page Ref: 96 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 39) A one-­‐year discount bond with a face value of $10,000 that is currently selling for $9400 has an 39) interest rate of A) 6.38%. B) 60%. C) 6%. D) 3.10%. Diff: 1 Page Ref: 96 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 40) A one-­‐year discount bond with a face value of $1000 has an interest rate of 4%. What is its price? A) $961.54 B) $996 C) $1,040 D) $960 Diff: 2 Page Ref: 96 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 40) 41) As wealth increases in the economy, savers are willing to A) buy more bonds at any given price. B) lend less at any given interest rate. C) buy fewer bonds at any given price. D) hold more cash relative to their holdings of bonds. Diff: 1 Page Ref: 98 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 42) If there is an excess demand for bonds at a given price of bonds, then A) the interest rate will rise. B) the price of bonds will fall. C) the interest rate will fall. D) the interest rate may rise or the interest rate may fall depending upon the reasons for the excess demand for bonds. Diff: 2 Page Ref: 97 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 43) If there is an excess supply of bonds at a given price of bonds, then A) the price of bonds will fall. B) the interest rate will fall. C) the interest rate will rise. D) the interest rate may rise or the interest rate may fall depending upon the reasons for the excess demand for bonds. Diff: 2 Page Ref: 97 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 41) 42) 43) 44) Which of the following would NOT cause the demand curve for bonds to shift? A) a change in expected inflation B) a change in wealth C) a change in the liquidity of bonds D) a change in the price of bonds Diff: 2 Page Ref: 97 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 45) As wealth increases in the economy, savers are willing to A) lend less at any given interest rate. B) hold more cash relative to their holdings of bonds. C) lend more at any given interest rate. D) buy fewer bonds at any given price. Diff: 2 Page Ref: 98 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 46) As wealth increases in the economy, we would expect to observe A) bond prices and interest rates both rise. B) bond prices fall and interest rates rise. C) bond prices and interest rates both fall. D) bond prices rise and interest rates fall. Diff: 2 Page Ref: 98 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 47) If the expected gains on stocks rise, while the expected returns on bonds do not change, then A) the supply curve for loanable funds will shift to the right. B) the equilibrium interest rate will rise. C) the equilibrium interest rate will fall. D) the demand curve for bonds will shift to the right. Diff: 3 Page Ref: 99 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 48) If the expected gains on stocks rise, while the expected returns on bonds do not change, then A) the demand curve for loanable funds will shift to the left. B) the supply curve for loanable funds will shift to the right. C) the equilibrium interest rate will fall. 44) 45) 46) 47) 48) D) the demand curve for bonds will shift to the left. Diff: 2 Page Ref: 99 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 49) The bond supply curve 49) A) shows the quantity of bonds borrowers are willing to supply as bond prices change. B) is represented by a downward-­‐sloping line when the price of bonds is on the vertical axis and the quantity of bonds supplied is on the vertical axis. C) shows the quantity of bonds lenders are willing to supply as interest rates change. D) shows the quantity of bonds lenders are willing to supply as bond prices change. Diff: 1 Page Ref: 96 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 50) The bond supply curve slopes up because 50) A) when bond prices are high, inflation is high. B) the lender is willing and able to offer more bonds when the price of the bond is low. C) interest rates rise as bond prices rise. D) the borrower is willing and able to offer more bonds when the price of the bond is high. Diff: 1 Page Ref: 96 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 51) How is the interest rate that prevails in the bond market determined? 51) A) by the demand for and supply of bonds B) by the decision of the president, in consultation with Congress C) by the interaction of stock prices and bond prices D) by the Board of Governors of the New York Stock Exchange Diff: 1 Page Ref: 96 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 52) In the bond market, the buyer is considered to be 52) A) the lender. B) the borrower. C) the lender or the borrower, depending upon whether interest rates are rising or falling. D) the lender or the borrower, depending upon the use to which the funds are put. Diff: 1 Page Ref: 96 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 53) In the bond market, the seller is considered to be A) the lender. B) the lender or the borrower depending upon the use to which the funds are put. C) the borrower. D) the lender or the borrower depending upon whether interest rates are rising or falling. Diff: 1 Page Ref: 96 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 54) Suppose that a new bond rating service is established that specializes in rating municipal bonds that had not previously been rated. The likely result would be A) a decrease in the equilibrium interest rate. B) a shift to the left in the demand curve for municipal bonds. C) an increase in the equilibrium interest rate. D) a shift to the left in the supply curve for municipal bonds. Diff: 2 Page Ref: 100 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 55) The demand curve for bonds would be shifted to the left by an A) increase in expected inflation. B) increase in wealth. C) increase in the liquidity of bonds relative to other assets. D) increase in expected returns on bonds. Diff: 1 Page Ref: 99 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 56) The demand curve for bonds would be reduced by A) an increase in the information costs of bonds relative to other assets. B) an increase in the liquidity of bonds relative to other assets. C) an increase in wealth. D) a decrease in expected returns on other assets. Diff: 1 Page Ref: 100 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 57) The demand curve for bonds would be shifted to the left by 57) A) an increase in the liquidity of bonds relative to other assets. B) an increase in expected returns on other assets. 53) 54) 55) 56) C) a decrease in the information costs of bonds relative to other assets. D) a decrease in expected inflation. Diff: 1 Page Ref: 99 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 58) The supply curve for loanable funds would decline due to 58) A) an increase in the expected return on bonds. B) a decrease in the riskiness of bonds relative to other assets. C) an increase in wealth. D) an increase in expected inflation. Diff: 1 Page Ref: 102 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 59) Businesses typically issue bonds to finance A) payments to their workers. C) spending on new plant and equipment. Diff: 1 Page Ref: 100 Topic: bond market B) their inventories. D) dividend payments to their stockholders. 59) Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 60) In an effort to increase government revenue, Congress and the president decide to increase the 60) corporate profits tax. The likely result will be A) the equilibrium price of bonds falls. B) the equilibrium interest rate rises. C) the demand curve for bonds shifts to the left. D) the supply curve for bonds shifts to the left. Diff: 2 Page Ref: 102 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 61) An increase in the corporate profits tax is likely to cause A) the equilibrium interest rate and the equilibrium price of bonds both fall. B) the equilibrium interest rate to rise and the equilibrium price of bonds to fall. C) the equilibrium interest rate to fall and the equilibrium price of bonds to rise. D) the equilibrium interest rate and the equilibrium price of bonds both rise. Diff: 2 Page Ref: 102 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 62) Suppose that Congress passes an investment tax credit. The likely result will be A) the equilibrium interest rate will fall. B) the demand curve for bonds will shift to the right. C) the supply curve for bonds will shift to the right. D) the demand curve for bonds will shift to the left. Diff: 2 Page Ref: 102 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 63) If a government'ʹs income tax receipts exceed its expenditures, the government is running a 61) 62) 63) A) deficit and is a net borrower of funds. B) surplus and is a net borrower of funds. C) surplus and is a net saver of funds. D) deficit and is a net saver of funds. Diff: 1 Page Ref: 103 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 64) During most of the time in recent decades, the government sector A) has run large deficits. B) has balanced its budget every year. C) has not spent more than it collected in taxes. D) has run large surpluses. Diff: 2 Page Ref: 103 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 64) 65) During most of the time in recent decades, the domestic government sector was A) neither a borrower nor a lender. B) a net lender. C) a major factor in keeping real interest rates low. D) a net borrower. 65) Diff: 1 Page Ref: 103 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 66) If the federal government decreases its spending and doesn'ʹt decrease taxes, the bond supply shifts to the A) right and the equilibrium interest rate falls. B) right and the equilibrium interest rate rises. C) left and the equilibrium interest rate falls. D) left and the equilibrium interest rate rises. Diff: 2 Page Ref: 103 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 67) If the government were to simultaneously cut the personal income tax and the corporate profits tax, the equilibrium interest rate A) would fall. B) would be unaffected. C) would rise. D) might either rise or fall. Diff: 3 Page Ref: 103 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 66) 67) 68) Studies by economists suggest that A) households also increase their dissaving when the government increases its dissaving. B) households increase their saving, but not by the full amount of an increase in government dissaving. C) households do not increase their saving as the government'ʹs dissaving increases. D) households also increase their saving when the government increases its saving. Diff: 2 Page Ref: 104 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 69) If the government increases taxes while holding expenditures constant, A) government borrowing will be increased. B) the bond supply curve will shift to the left and the equilibrium interest rate will fall. C) the bond supply curve will shift to the right and the real interest rate will fall. D) the government'ʹs deficit will increase. Diff: 1 Page Ref: 103 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Analytic Skills 70) If households increase their saving at the same time that the government increases its deficit, A) the equilibrium interest rate will definitely rise. B) the demand and supply curves for bonds will be unaffected. C) the demand curve for bonds will shift to the left. D) the supply curve for bonds will shift to the right. Diff: 2 Page Ref: 104 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 71) The supply curve for bonds would be shifted to the right by A) a decrease in tax subsidies for investment. B) a decrease in government borrowing. C) a decrease in expected profitability. D) a decrease in the corporate tax on profits. Diff: 1 Page Ref: 102 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 68) 69) 70) 71) 72) The supply curve for bonds would be shifted to the left by A) a decrease in the corporate tax on profits. B) a decrease in government borrowing. C) an increase in expected inflation. D) an increase in tax subsidies for investment. Diff: 1 Page Ref: 103 Topic: bond market Objective: Use a model of demand and supply to determine market interest rates for bonds AACSB: Reflective Thinking 73) Suppose that there is concern about the stability of the global financial system causing a flight to the safety of U.S. government bonds. Which of the following is NOT a likely consequence? A) lower interest rate on U.S. government bonds B) increased demand for U.S. government bonds C) reduced supply of U.S. government bonds D) higher price of U.S. government bonds 74) A reduction in expected inflation will result in all of the following EXCEPT: A) increased supply of bonds B) reduced demand for bonds C) lower real interest rates D) lower nominal interest rates Diff: 2 Page Ref: 99, 102 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Analytic Skills 75) An increase in the tax rate on dividends, other things equal, is likely to result in a(n): A) reduced demand for bonds due to an increase in the expected return on bonds relative to stocks B) increased demand for bonds due to an increase in the expected return on bonds relative to stocks C) reduced demand for bonds due to a decrease in the expected return on bonds relative to stocks D) increased supply of bonds due to an increase in the expected return on bonds relative to stocks Diff: 2 Page Ref: 99 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Analytic Skills 72) 73) 74) 75) 76) Other things equal, an increase in the tax on dividends is likely to result in all of the following EXCEPT: A) lower interest rates B) higher interest rates C) higher expected return on bonds relative to stocks D) increased demand for bonds Diff: 3 Page Ref: 99 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Analytic Skills 77) Which of the following is NOT a reason that interest rates remained low despite high budget deficits following the financial crisis? A) increased demand for U.S. government bonds B) the perceived riskiness of alternative investments such as stocks C) increases in expected inflation D) low interest rates on CDs and similar short-­‐term assets Diff: 3 Page Ref: 104 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Reflective Thinking 78) As a result of low interest rates on CDs and the perceived riskiness of alternative investments following the financial crisis of 2007-­‐2009, the bond market was affected in all of the following ways EXCEPT: A) higher price of bonds B) lower nominal interest rates C) higher real interest rates D) higher demand for bonds Diff: 2 Page Ref: 104 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Analytic Skills 76) 77) 78) 79) If bond investors think they lack enough details to evaluate the likelihood of defaults on certain 79) bonds, this will result in higher: A) expected inflation B) expected return C) liquidity D) information costs Diff: 2 Page Ref: 100 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Reflective Thinking 80) Which of the following is NOT a likely impact on the bond market if corporations become convinced that a robust economic recovery is underway? A) lower bond prices B) increased demand for bonds C) higher interest rates D) increased supply of bonds 80) 81) Which of the following is the most likely explanation of Japan'ʹs very low market interest rates in 84) the early 2000s? A) an increase in corporate profits B) an increasing trade surplus C) an increasing budget deficit D) expected deflation Diff: 2 Page Ref: 107 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Reflective Thinking 85) The Federal Reserve issues a report indicating that future inflation will be higher than had previously seemed likely. As a result A) the equilibrium price of bonds rises. B) the supply curve for bonds shifts to the right. C) the demand curve for loanable funds shifts to the left. D) the equilibrium interest rate falls. Diff: 2 Page Ref: 107 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Reflective Thinking 86) During a period of economic expansion, when expected profitability is high, A) the equilibrium interest rate falls. B) the supply curve of bonds shifts to the right. C) the demand curve for bonds shifts to the left. D) the equilibrium price of bonds rises. Diff: 2 Page Ref: 106 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Reflective Thinking 85) 86) 87) During an economic recession, 87) A) the bond demand and supply curves both shift to the left and the equilibrium interest rate usually falls. B) the bond demand curve shifts to the left, the bond supply curve shifts to the right, and the equilibrium interest rate usually rises. C) the bond demand and supply curves both shift to the right and the equilibrium interest rate usually rises. D) the bond demand curve shifts to the right, the bond supply curve shifts to the left, and the equilibrium interest rate usually falls. Diff: 3 Page Ref: 106 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Analytic Skills 88) During an economic recession, 88) A) the demand curve for loanable funds shifts to the left, the supply curve for loanable funds shifts to the right, and the equilibrium interest rate usually rises. B) the demand and supply curves for loanable funds both shift to the left and the equilibrium interest rate usually falls. C) the demand curve for loanable funds shifts to the right, the supply curve for loanable funds shifts to the left, and the equilibrium interest rate usually falls. D) the demand and supply curves for loanable funds both shift to the right and the equilibrium interest rate usually rises. Diff: 3 Page Ref: 106 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Analytic Skills 89) A decrease in expected inflation 89) A) usually leads to falling nominal interest rates. B) will shift the bond demand curve to the left. C) results in increased nominal capital gains on physical assets. D) will shift the supply curve for loanable funds to the left. Diff: 3 Page Ref: 107 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Analytic Skills 90) As a result of higher expected inflation, A) the demand curve for loanable funds shifts to the left, the supply curve for loanable funds shifts to the right, and the equilibrium interest rate usually rises. B) the demand and supply curves for loanable funds both shift to the left and the equilibrium interest rate usually falls. C) the demand curve for loanable funds shifts to the right, the supply curve for loanable funds shifts to the left, and the equilibrium interest rate usually rises. D) the demand and supply curves for loanable funds both shift to the right and the equilibrium interest rate usually rises. Diff: 3 Page Ref: 108 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Analytic Skills 90) 91) If expected inflation declines by 2%, what should happen to nominal interest rates according to the 91) Fisher effect? A) fall by 2% B) rise by 2% C) double in size Diff: 2 Page Ref: 107 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Analytic Skills 92) An increase in expected inflation results in A) higher real interest rates and lower bond prices. B) lower nominal interest rates and higher bond prices. C) lower real interest rates and higher bond prices. D) higher nominal interest rates and lower bond prices. Diff: 2 Page Ref: 108 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Analytic Skills D) be cut in half 92) 93) The idea that nominal interest rates rise or fall one-­‐for-­‐one with expected inflation is known as A) market risk. B) systematic risk. C) the Fisher effect. D) idiosyncratic risk. Diff: 1 Page Ref: 107 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Reflective Thinking 94) Alternating periods of economic expansion and recession are known as the: 93) 94) A) business cycle B) Fisher effect C) systematics D) market risk Diff: 1 Page Ref: 105 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Reflective Thinking 95) According to the Fisher effect, an increase in expected inflation results in: 95) A) higher real interest rates B) lower real interest rates C) higher nominal interest rates D) lower nominal interest rates Diff: 1 Page Ref: 107 Topic: bond market Objective: Use the bond market model to explain changes in interest rates AACSB: Reflective Thinking 96) A closed economy is one that99) A) produces mainly manufactured goods. B) has no government sector. C) produces mainly agricultural goods. D) neither borrows from nor lends to foreign countries. Diff: 1 Page Ref: 113 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 97) Loanable funds refers to 100) A) all those funds changing hands between lenders and borrowers in the bond market. B) only those funds loaned from one bank to another. C) only those funds loaned to banks by the Federal Reserve. D) only those funds loaned by banks to private individuals. Diff: 1 Page Ref: 110 Topic: loanable funds market Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 101) The supply curve for loanable funds would increase due to a(n) 101) A) increase in expected inflation. B) increase in the information costs of bonds relative to other assets. C) decrease in the liquidity of bonds relative to other assets. D) increase in wealth. Diff: 2 Page Ref: 112 Topic: loanable funds market Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 102) The supply curve of loanable funds slopes up because 102) A) a decrease in the interest rate makes lenders more willing and able to supply more funds. B) higher interest rates reduce the inflation rate. C) an increase in the interest rate makes lenders more willing and able to supply more funds. D) at higher bond prices more loanable funds will be supplied. Diff: 1 Page Ref: 111 Topic: loanable funds market Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 103) The demand for bonds is 103) A) represented by a downward-­‐sloping line when the interest rate is on the vertical axis and the quantity of bonds demanded is on the horizontal axis. B) equivalent to the demand for loanable funds. C) represented by an upward-­‐sloping line when the price of bonds is on the vertical axis and the quantity of bonds demanded is on the horizontal axis. D) equivalent to the supply of loanable funds. Diff: 1 Page Ref: 111 Topic: loanable funds market Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 104) Which of the following statements is correct? 104) A) The demand curve for loanable funds slopes up, whereas the demand curve for bonds slopes down. B) The supply curve for bonds and the supply curve for loanable funds both slope up. C) The demand curve for loanable funds and the demand curve for bonds both slope up. D) The supply curve for loanable funds slopes up, whereas the supply curve for bonds slopes down. Diff: 1 Page Ref: 111-­‐112 Topic: loanable funds market Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 105) The demand curve for loanable funds slopes down because 105) A) lower interest rates reduce the inflation rate. B) an increase in the interest rate makes borrowers more willing and able to demand more funds. C) at lower bond prices more loanable funds will be supplied. D) a decrease in the interest rate makes borrowers more willing and able to demand more funds. Diff: 1 Page Ref: 112 Topic: loanable funds market Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 106) In the market for loanable funds, the seller is considered to be 106) A) the lender or the borrower depending upon whether interest rates are rising or falling. B) the borrower. C) the lender or the borrower depending upon the use to which the funds are put. D) the lender. Diff: 1 Page Ref: 110 Topic: loanable funds market Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 107) In the market for loanable funds the price of the funds exchanged is 107) A) the price of bonds. B) the volume of bonds sold. C) the interest rate. D) the volume of bonds purchased. Diff: 1 Page Ref: 110 Topic: loanable funds market Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 108) In recent decades, the United States A) experienced a net outflow of savings. B) was essentially a closed economy. C) was generally a net lender abroad. D) was generally a net borrower of foreign funds. Diff: 1 Page Ref: 116 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 109) An open economy is one that 109) A) has a large government sector. B) produces mainly manufactured goods. C) lends and borrows in the international capital market. 108) D) produces mainly agricultural goods. Diff: 1 Page Ref: 113 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 110) The world real interest rate is 110) A) determined in the international capital market. B) set annually by a special commission at the International Monetary Fund. C) determined daily on the New York Stock Exchange. D) set annually by a special commission at the United Nations. Diff: 1 Page Ref: 113 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 111) In an open economy, desired domestic lending 111) A) is always greater than desired domestic borrowing. B) must equal desired domestic borrowing plus the amount of international lending. C) must equal desired domestic borrowing. D) is always less than desired domestic borrowing. Diff: 2 Page Ref: 114-­‐115 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 112) A small open economy 112) A) will always be a net borrower from abroad. B) is unable to affect the world real interest rate by its borrowing and lending decisions. C) will always be a net lender abroad. D) is almost never able to borrow abroad. Diff: 1 Page Ref: 114 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 113) The equilibrium real interest rate in Belgium will be A) equal to the world real interest rate. B) generally above the world real interest rate. C) determined by the equilibrium between desired domestic saving and desired domestic investment. D) generally below the world real interest rate. Diff: 2 Page Ref: 113 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Reflective Thinking 114) In a large open economy, A) an increase in the domestic supply of loanable funds would lower the world real interest rate. B) the domestic equilibrium real interest rate is determined independently of foreign borrowing and lending. C) an increase in the domestic demand for loanable funds would lower the world real interest rate. D) domestic lending and borrowing decisions have no impact on the world real interest rate. Diff: 2 Page Ref: 115 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Analytic Skills 115) Since Germany is a large open economy, the increase in German borrowing and investment in what was formerly East Germany in the early 1990s resulted in A) a decline in the world real interest rate. B) an increase in the real interest rate in the United States. C) a shift to the left in the German demand for loanable funds curve. D) a shift to the right in the German supply of loanable funds curve. Diff: 2 Page Ref: 115 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Analytic Skills 116) Suppose that a small economy that had previously been closed becomes open. If its real interest rate had previously been below the world real interest rate, we would expect that A) the country would become a new borrower abroad. B) the amount of loanable funds supplied in the country would decline. C) the country would become a net lender abroad. D) the country'ʹs real interest rate would remain below the world level. Diff: 3 Page Ref: 114 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Analytic Skills 113) 114) 115) 116) 117) How can a global savings glut affect the United States? A) It can reduce the demand for loanable funds for the United States. B) It can increase the world real interest rate, thus encouraging saving by Americans. C) It can reduce the supply of loanable funds for the United States. D) It can reduce the world real interest rate, thus encouraging borrowing by Americans. Diff: 3 Page Ref: 116-­‐117 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Analytic Skills 118) Consider an open economy that is a net borrower (like the United States). What would be the impact of a shift to a closed economy? A) domestic investment would decline B) net borrowing would increase C) domestic interest rates would decline D) domestic savings would decline Diff: 3 Page Ref: 113, 116 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Analytic Skills 119) Which of the following is a possible impact of a global savings glut on a small open economy? A) domestic investment would increase B) interest rate would decrease C) domestic savings would increase D) interest rate would increase Diff: 3 Page Ref: 114, 116-­‐117 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Analytic Skills 117) 118) 119) 120) If a large open economy, like the United States, reduces its budget deficit, what impact would this120) have on a small open economy? A) increased net savings B) increased investment C) no change in interest rates D) higher savings Diff: 3 Page Ref: 114-­‐115 Topic: international capital markets Objective: Use the loanable funds model to analyze the international capital market AACSB: Analytic Skills 121) If a small open economy reduces its budget deficit, the result will be: A) lower domestic and world real interest rates B) a lower world real interest rate, but no change in the domestic real interest rate C) a lower domestic real interest rate, but no change in the world real interest rate D) no change in either the domestic or world real interest rate 121) Answer: D Chapter 5 1) The risk structure of interest rates refers to 1) A) the amount of additional interest necessary to compensate savers for the greater risk of default on some bonds. B) the relationship among the interest rates on bonds with the same maturity. C) the relationship among the interest rates on similar bonds with different maturities. D) the amount of additional yield necessary to compensate savers for the lesser liquidity of some bonds. Diff: 1 Page Ref: 125 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 2) Default risk arises from the fact that 2) A) the bond price drops when interest rates rise. B) interest rates are far more likely to go up than to go down. C) it is inherently riskier to wait for a capital gain than to receive an immediate interest payment. D) borrowers differ in their ability to repay in full the principal and interest required by a loan agreement. Diff: 1 Page Ref: 126 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 3) The risk premium of corporate bonds typically increases 3) A) when the average price of corporate bonds increase. B) during a recession. C) when the risk premium on treasury bonds increases. D) when the interest rates on corporate bonds decreases. Diff: 2 Page Ref: 129 Topic: risk premium Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 4) Currently, a three-­‐month Treasury bill has a yield of 5% while the yield on a ten-­‐year Treasury 4) bond is 4.7%. What is the risk premium of the typical A-­‐rated ten-­‐year corporate bond with a yield of 5.5%? A) 1.17%B) 0.8% C) 5.5% D) 0.5% Diff: 2 Page Ref: 126 Topic: risk premium Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Analytic Skills 5) Currently, a three-­‐year Treasury note pays 4.75%. Assuming that your tax rate is 20%, what is the 5) minimum interest rate that you would you need to earn on a tax-­‐free municipal bond in order to buy it instead? A) 0.95%B) 5.7% C) 3.8% D) 15.25% Diff: 2 Page Ref: 132 Topic: tax treatment of bonds Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Analytic Skills 6) When a company whose ability to repay its obligations in full is uncertain, 6) A) it must offer investors higher yields to compensate them for the risk they take in buying their bonds or making loans. B) it will have to issue debt with longer maturities than would a company with a lower probability of default. C) it must do so through financial markets rather than through financial intermediaries. D) its bonds will sell for higher prices than would the bonds of a company with a lower probability of default. Diff: 2 Page Ref: 126 Topic: risk premium Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Analytic Skills 7) Default risk 7) A) is zero for bonds issued by cities and states. B) is also known as market risk. C) exists only for the bonds of small corporations. D) is the probability that a borrower will not pay in full the promised coupon or principal. Diff: 1 Page Ref: 126 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 8) Which of the following is considered a default-­‐risk-­‐free instrument? 8) A) a three-­‐month commercial paper issued by GE B) a three-­‐month Treasury bill C) a share of stock issued by Google D) a ten-­‐year bond issued by Intel Diff: 1 Page Ref: 126 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 9) U.S. Treasury securities 9) A) are considered default-­‐risk-­‐free instruments. B) are considered risk free because their prices never change. C) have been defaulted on several time in U.S. history. D) have a large default risk premium. Diff: 1 Page Ref: 126 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 10) The default risk premium is measured 10) A) as the difference between the yield on a non-­‐Treasury security and the yield on a U.S. Treasury security of the same maturity. B) by an index published monthly by The Wall Street Journal. C) by an index published monthly by the Securities and Exchange Commission. D) as the difference between the nominal yield on the security and the real after-­‐tax yield on the security. Diff: 2 Page Ref: 126 Topic: risk premium Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 11) The default risk premium is A) constant across the business cycle. B) the additional yield a saver requires for holding a bond with some default risk. C) relevant only for securities issued by very small companies. D) zero for corporate bonds, but quite substantial for corporate stock. Diff: 1 Page Ref: 126 Topic: risk premium Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 12) Investors often pay professional analysts to gather and monitor information on the creditworthiness of borrowers because A) the cost of acquiring information about a borrower'ʹs creditworthiness can be high. B) doing so increases the net-­‐of-­‐tax yield on most investments. C) most investors are risk neutral. D) federal law requires it. 11) 12) Diff: 2 Page Ref: 126 Topic: liquidity and information costs Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 13) Which of the following assigns widely-­‐followed bond ratings? A) Standard & Poor'ʹs Corporation B) IBM C) Federal Reserve D) Securities and Exchange Commission Diff: 1 Page Ref: 126 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 14) Bond ratings A) are published annually by the federal government and are based on publicly available information. B) are published by private bond-­‐rating agencies. C) are published monthly by the federal government and are based on publicly available information. D) are published annually by the federal government and are based largely on information contained in corporate tax returns. Diff: 1 Page Ref: 126 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 15) Which of the following is the highest bond rating assigned by Moody'ʹs Investors Service? A) Baa B) A C) B D) Aaa Diff: 1 Page Ref: 127 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 13) 14) 15) 16) Which of the following is the lowest rating given to an investment-­‐grade bond by Moody'ʹs? A) Baa B) A C) Aa D) B Diff: 1 Page Ref: 127 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 16) 17) Which of the following bond ratings by Moody'ʹs Investors Service would NOT be considered to be17) below investment grade? A) B B) Ba C) Baa D) All of these ratings are considered below investment grade. Diff: 1 Page Ref: 127 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 18) Which of the following statements about junk (high-­‐risk) bonds is true? A) They tend to perform best during recessions. B) The price of junk bonds increase as their perceived risk increases. C) They never outperform treasury bonds since they'ʹre too risky. D) One can profit by owning them if market perceptions of their risk decline. Diff: 3 Page Ref: 127 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Analytic Skills 18) 19) The default risk premium fluctuates mainly A) as new information about a borrower'ʹs creditworthiness becomes available. B) because taxes tend to rise over the long run. C) because bond rating agencies tend to be inconsistent in their ratings of bonds. D) because risk-­‐neutral investors will often become risk-­‐averse as time passes. Diff: 2 Page Ref: 126 Topic: risk premium Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 19) 20) If lenders anticipate no changes in liquidity, information costs, and tax differences, the yield on a 20) risky security should be A) less than that on a safe security and the price of a risky security should be greater than that on a safe security. B) less than that on a safe security and the price of a risky security should also be less than that of a safe security. C) greater than that on a safe security and the price of a risky security should be lower than that of a safe security. D) greater than that on a safe security and the price of a risky security should also be greater than that of a safe security. Diff: 2 Page Ref: 126 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 21) A flight to quality refers to a shift by savers from A) bonds and into real assets, such as real estate. B) stocks and into gold or other precious metals. C) low-­‐quality bonds and into high-­‐quality bonds. D) bonds and into stocks. Diff: 1 Page Ref: 128 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 21) 22) During the financial crisis of 2007-­‐09, the prices of U.S. Treasury securities A) remained in the same relative position to the prices of corporate bonds. B) rose and the price of corporate bonds declined. C) fell relative to the prices of corporate bonds. D) were frozen by order of the federal government. Diff: 2 Page Ref: 129 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 23) In late 2008, the average risk premium rose because A) of the financial crisis. B) of fraud in the market for municipal bonds. C) investors feared a revival of inflation. D) large tax increases in the United States reduced corporate profits and led to fears of increased defaults. Diff: 2 Page Ref: 129 Topic: risk premium Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 22) 23) 24) A company that retains a high bond rating during a recession in which many other companies see24) their bond ratings cut will experience A) an increased flow of funds into the market for its securities. B) a decreased demand for its securities, resulting in a lower expected return. C) a decreased flow of funds into the market for its securities. D) an increased demand for its securities, resulting in a higher expected return. Diff: 2 Page Ref: 126, 128 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 25) The greatest appeal of U.S. Treasury securities is that A) their market prices fluctuate very little. B) the U.S. Treasury will repurchase them at any time. C) they have no default risk. D) they have high yields. Diff: 2 Page Ref: 126 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 25) 26) Suppose that savers become much more willing to purchase a certain type of municipal bond. The26) result will be that the bond'ʹs price will A) fall relative to the prices of U.S. Treasury securities and corporate bonds. B) fall relative to the price of U.S. Treasury securities but rise relative to the price of corporate bonds. C) rise relative to the price of U.S. Treasury securities but fall relative to the price of corporate bonds. D) rise relative to the prices of U.S. Treasury securities and corporate bonds. Diff: 2Page Ref: 132 Topic: tax treatment of bonds Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Analytic Skills 27) Suppose that savers become less willing to purchase medium-­‐quality corporate bonds. The result 27) will be that the prices of medium-­‐quality corporate bonds will A) rise relative to the price of U.S. Treasury securities, but fall relative to the price of high-­‐ quality corporate bonds. B) rise relative to the prices of U.S. Treasury securities and high-­‐quality corporate bonds. C) fall relative to the price of U.S. Treasury securities, but rise relative to the price of high-­‐ quality corporate bonds. D) fall relative to the prices of U.S. Treasury securities and high-­‐quality corporate bonds. Diff: 2 Page Ref: 128 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Analytic Skills 28) Financial instruments with high information costs A) may not be offered for sale in some states. B) will have lower prices than similar instruments with low information costs. 28) C) will have lower yields than U.S. Treasury securities. D) will usually be more liquid than similar instruments with low information costs. Diff: 2Page Ref: 131 Topic: liquidity and information costs Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 29) The existence of rating agencies has A) left returns on corporate bonds largely unaffected. B) raised returns on corporate bonds. C) raised returns on both corporate bonds and Treasury securities. D) lowered returns on corporate bonds. Diff: 3 Page Ref: 131 29) Topic: liquidity and information costs Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Analytic Skills 30) Following the downgrade of U.S. debt by Standard & Poor'ʹs in August, 2011: 30) A) interest rates spiked as investor'ʹs perception of risk increased B) the U.S. implemented a plan to significantly reduce its budget deficit later that year C) other rating agencies also downgraded U.S. debt D) investors didn'ʹt seem to be any more concerned about default risk than before the downgrade Diff: 2 Page Ref: 126 Topic: risk structure Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 31) During the financial crisis of 2007-­‐2009, 31) A) information costs of mortgage-­‐backed securities rose. B) information costs of mortgage-­‐backed securities declined. C) the tax treatment of mortgage-­‐backed securities was changed. D) mortgage-­‐backed securities became more liquid. Diff: 2 Page Ref: 131 Topic: liquidity and information costs Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 32) Differences in the taxation of returns 32) A) have a negligible effect on the yields of credit market instruments. B) create differences in yields among credit market instruments. C) only affect the yields of high-­‐information cost credit market instruments. D) only affect the yields of illiquid credit market instruments. Diff: 2 Page Ref: 132 Topic: tax treatment of bonds Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 33) Municipal bonds are issued 33) A) only by local governments. B) by both state and local governments. C) by the federal government, and by state and local governments. D) only by state governments. Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 34) For state residents, interest on most bonds issued by their state government is A) exempt from state, but not from federal, income taxes. B) exempt from federal, but not from state, income taxes. C) exempt from state and federal income taxes. D) subject to both state and federal income taxes. Diff: 1Page Ref: 132 Topic: tax treatment of bonds Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 34) 35) Many savers are willing to accept a lower interest rate on municipal bonds than on comparable35) instruments because A) the yield on municipal bonds is considered inflation proof. B) municipal bonds invariably have lower default risk. C) the after-­‐tax yield on municipal bonds is greater. D) municipal bonds are more liquid than most other instruments. Diff: 2Page Ref: 132 Topic: tax treatment of bonds Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 36) Suppose that your marginal federal income tax rate is 30%, the sum of your marginal state and local tax rates is 5%, and the yield on thirty-­‐year U.S. Treasury bonds is 10%. You would be indifferent between buying a thirty-­‐year Treasury bond and buying a thirty-­‐year municipal bond issued within your state (ignoring differences in liquidity, risk, and costs of information) if the municipal bond has a yield of A) 9.5%.B) 7.0%. C) 6.5%. D) 10.0%. Diff: 3Page Ref: 132 Topic: tax treatment of bonds Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Analytic Skills 37) Suppose that your marginal federal income tax rate is 30%, the sum of your marginal state and local tax rates is 5%, and the yield on a thirty-­‐year corporate bond is 10%. You would be indifferent between buying this corporate bond and buying a thirty-­‐year municipal bond issued within your state (ignoring differences in liquidity, risk, and costs of information) if the municipal bond has a yield of A) 6.5%.B) 7.0%. C) 10.0%. D) 9.5%. 36) 37) Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Analytic Skills 38) Interest and capital gains are taxed differently in the United States in that A) interest is taxed as ordinary income, but capital gains are taxed only when realized. B) capital gains when realized are exempt from state and local taxes. C) interest is exempt from state and local taxes. D) interest is taxed as ordinary income, but capital gains are taxed as accrued. Diff: 2Page Ref: 132 Topic: tax treatment of bonds Objective: Explain why bonds with the same maturity can have different interest rates AACSB: Reflective Thinking 39) If the federal government replaced the current income tax with a value-­‐added tax A) the prices of Treasury bonds would fall, while the prices of municipal bonds would rise. B) the prices of Treasury and municipal bonds would rise. C) the prices of Treasury and municipal bonds would fall. D) the prices of Treasury bonds would rise, while the prices of municipal bonds would fall. 40) Which of the following statements is true? A) Tax-­‐free bonds normally have a higher interest rate than other types of bonds. B) The price of a bond increases as it becomes more risky. C) The more liquid the bond, the lower the yield. D) The yield curve illustrates the relative default risks of alternative types of bonds. 41) All of the following are names for bonds receiving low ratings EXCEPT: A) speculative B) high yield C) garbage D) junk 42) Which of the following is a single statistic that summarizes a rating agency'ʹs view of the issuer'ʹs 42) likely ability to make the required payments on its bonds? A) bond rating B) speculation C) yield D) grade 43) Bonds receiving one of the top four ratings are considered: A) AAAB) junk C) speculative D) investment grade 44) A bond that is generally agreed to have higher default risk will experience all of the following EXCEPT: A) declining demand B) higher yield C) declining supply D) lower price 43) 44) 45) Which of the following is NOT a reason that credit ratings agencies became more relevant beginning in the late 1970s? A) rating agencies began to charge investors for their services B) rating agencies began to rate bonds issued by foreign governments and firms C) governments began to include bond ratings in their regulation of banks, mutual funds, and other financial firms D) the number of bond defaults rose due to periods of recession and inflation 46) Some claim that ratings agencies have a conflict of interest since: A) since agencies charge firms for their services rather than investors, they have an incentive to give high ratings to gain business B) they rate the quality of their own bonds C) government began to include bond ratings as part of regulations of mutual funds, banks, and financial firms 45) 46) D) they issued many of the mortgages that were later securitized into bonds 47) Which of the following accurately describes the tax treatment of municipal bonds? A) Interest is tax free, but realized capital gains are taxable. B) Interest is taxable, but capital gains are tax free. C) All income from municipal bonds is tax free. D) Interest is tax free, but unrealized capital gains are taxable. 48) In late 2012, President Obama proposed raising the top income tax rate. All of the following are 48) likely impacts of higher income tax rates on bonds EXCEPT: A) lower interest rates on Municipal bonds B) increased demand for Municipal bonds C) lower prices for Municipal bonds D) higher interest rates on Treasury bonds 49) Which of the following statements about junk bonds is false? A) They pay higher interest rates than investment grade bonds due to higher perceived risk. B) Prior to the 1970s, corporations were unable to issue junk bonds. C) A popular measure of junk bond yields reached a record low in 2012. 49) D) Given the likelihood of default, it is never profitable to purchase junk bonds. 50) The term structure of interest rates 59) A) usually results in a downward-­‐sloping yield curve. B) always results in an upward-­‐sloping yield curve. C) reflects differing tax treatment received by different instruments. D) represents the relationship among the interest rates on bonds that are otherwise similar but that have different maturities. 60) The term structure is usually defined with yields on which securities? A) corporate bonds B) municipal bonds C) commercial paper D) U.S. Treasury securities When the yield curve is downward-­‐sloping, B) the bond market is anticipating the U.S. Treasury may default on its obligations. C) the inflation rate is expected to rise. D) long-­‐term yields are higher than short-­‐term yields. E) short-­‐term yields are higher than long-­‐term yields. 61) Which of the following is NOT true of the yield curve for U.S. Treasury securities? A) Typically, it slopes upward. B) Typically, it slopes downward. C) It depicts the relationship among yields on securities of different maturities. D) Typically, it shifts up or down rather than twists. 60) 61) 62) 62) Which of the following is true of the segmented markets theory? A) It provides a good explanation for why yield curves usually slope upward. B) It assumes that borrowers have particular periods for which they want to borrow. C) It assumes that lenders always lend for short periods. D) It assumes that instruments with different maturities are perfect substitutes. 63) The segmented markets theory A) explains upward-­‐sloping yield curves as resulting from the demand for long-­‐term bonds being low relative to the demand for short-­‐term bonds. B) explains upward-­‐sloping yield curves as resulting from the favorable tax treatment of long-­‐ term bonds. C) explains upward-­‐sloping yield curves as resulting from the demand for long-­‐term bonds being high relative to the demand for short-­‐term bonds. D) is unable to account for upward-­‐ sloping yield curves. 64) The segmented markets theory A) has difficulty explaining why yields on instruments of different maturities tend to move together. B) has difficulty explaining why yield curves usually slope up. C) has difficulty explaining why yield curves usually slope down. D) provides a good explanation of why yields on instruments of different maturities tend to move together. 63) 64) 65) 65) The yield on a thirty-­‐year Treasury bond is 8% at the same time as the yield on two-­‐year Treasury66) note is 5%. This occurrence A) is largely explained by the favorable tax treatment of Treasury notes. B) is well explained by the segmented markets theory. C) indicates that the yield curve is downward sloping. D) indicates that the bond market is anticipating that inflation will fall. 66) What is the most important contrast between the segmented markets theory and the expectations67) theory? A) The segmented markets theory states that investors view similar assets that differ only with respect to maturity as perfect substitutes. B) The expectations theory does a better job of explaining why yield curves typically are upward-­‐sloping. C) The segmented markets theory does a better job of explaining why yields on instruments of different maturities tend to move together. D) The expectation theory states that investors view similar assets that differ only with respect to maturity as perfect substitutes. 67) The expectations theory suggests that A) the slope of the yield curve depends on the expected future path of short-­‐term rates. B) the yield curve should usually be upward-­‐sloping. C) the slope of the yield curve reflects the risk premium incorporated into the yields on long-­‐ term bonds. D) the yield curve should usually be downward-­‐sloping. 68) If the expected path of interest rates on one-­‐year bonds over the next five years is 2%, 4%, 3%, 2%, and 1%, the expectations theory predicts that the bond with the lowest interest rate today is the one with a maturity of A) five years. B) three years. C) one year. D) two years. 69) The implication of the expectations theory that expected returns for a holding period must be the same for bonds of different maturities depends on the assumption that A) savers are usually risk averse. B) yield curves usually slope upward. C) yield curves usually slope downward. D) instruments with different maturities are perfect substitutes. 68) 69) 70) 70) A one-­‐year bond currently pays 5% interest. It'ʹs expected that it will pay 4.5% next year and 4% the following year. The two-­‐year term premium is 0.2% while the three-­‐year term premium is 0.35%. What is the interest rate on a two-­‐year bond according to the liquidity premium theory? A) 4.975%B) 4.5% C) 4.75% D) 4.95% 71) A one-­‐year bond currently pays 5% interest. It'ʹs expected that it will pay 4.5% next year and 4% the following year. The two-­‐year term premium is 0.2% while the three-­‐year term premium is 0.35%. What is the interest rate on a three-­‐year bond according to the liquidity premium theory? A) 4.85%B) 4.5% C) 4.68% D) 5.05% 72) According to the liquidity premium theory, what does a flat yield curve indicate? A) Long-­‐term interest rates are expected to fall. B) Short-­‐term interest rates are expected to remain stable. C) Short-­‐term interest rates are expected to fall. D) Short-­‐term interest rates are expected to rise. 73) According to the liquidity premium theory, a steep yield curve may be an indicator of A) lower future short-­‐term interest rates. B) an upcoming recession. C) an economic slowdown. D) expectations of a significant increase in inflation. 74) According to the liquidity premium theory, the yield curve normally has a positive slope because A) risk premiums rise over time. B) short-­‐term interest rates are expected to rise. C) long-­‐term bonds are more liquid than short-­‐term bonds. D) term premiums rise as the time to maturity increases. 71) 72) 73) 74) 75) 75) Under the expectations theory if market participants expect that future short-­‐term rates will be higher than current short-­‐term rates, the yield curve will A) slope downward. B) slope upward. C) be flat. D) slope upward, slope downward, or be flat, depending on risk, liquidity, cost of information, and tax considerations. 76) Unlike the segmented markets theory, the expectations theory attributes the slope of the yield curve to A) the variance in the inflation rates over the business cycle. B) the market'ʹs view of future short-­‐term interest rates. C) tax considerations. D) the fact that short-­‐term bonds are not perfect substitutes for long-­‐term bonds. 77) The expectations theory A) has difficulty explaining why yield curves usually slope upward. B) has difficulty explaining why yields on bonds of different maturities move together. C) accounts well for the fact that yield curves usually slope upward. D) has difficulty explaining why U.S. Treasury securities have lower yields than corporate bonds. 78) Which interest rate is typically the lowest? A) 2-­‐year Treasury notes B) 30-­‐year Treasury bonds C) 10-­‐year Treasury bonds D) 3-­‐month Treasury bills 76) 77) 78) 79) 79) The key assumption of the liquidity premium theory is that investors 80) A) view bonds of different maturities as perfect substitutes. B) always choose the bond with the highest expected return, regardless of maturity. C) care about both expected returns and time to maturity. D) view bonds of different maturities as completely unsubstitutable. 80) According to the liquidity premium theory 81) A) investors prefer longer to shorter maturities. B) investors prefer shorter to longer maturities. C) investors are more interested in the tax treatment of bonds than they are in the liquidity of bonds. D) investors are indifferent between short and long maturities. 81) The liquidity premium theory holds that investors A) always choose the bond with the highest expected return, regardless of maturity. B) view bonds of different maturities as perfect substitutes. C) view bonds of different maturities as completely unsubstitutable. D) require a term premium to compensate them for investing in a less preferred maturity. 82) 82) If a one-­‐year bond currently yields 5% and is expected to yield 7% next year, the liquidity premium theory predicts that the yield today on a two-­‐year bond should be A) more than 6%. B) 6%. C) less than 6%, but more than 5%. D) 5%. 83) Which of the following is NOT true of the term premium? A) It increases as a bond'ʹs maturity increases. B) It is zero under the expectations theory. C) It is infinite under the segmented markets theory. D) It is zero for thirty-­‐year bonds. 84) Under the liquidity premium theory the shape of the yield curve depends on A) the relative return of investments in common stocks versus investments in corporate bonds. B) the expected pattern of future short-­‐term rates and the size of the term premium at each maturity. C) government tax treatment of long-­‐term versus short-­‐term bonds. D) the size of the federal government'ʹs budget deficit. 84) 85) 85) Under the liquidity premium theory, the expectation that future short-­‐term rates will be constant results in a yield curve that A) slopes downward. B) is flat. C) slopes upward. D) is flat, slopes upward, or slopes downward, depending on the size of the term premium at each maturity. 86) Under the expectations theory, an upward-­‐sloping yield curve indicates that investors expect future short-­‐term rates to A) remain constant. B) rise. C) fall. D) either rise or remain constant. 87) 87) Under the liquidity premium theory, a flat yield curve indicates that investors expect future short-­‐88) term rates to A) fall.B) remain constant. C) rise.D) either fall or remain constant. 88) According to the liquidity premium theory, if market participants expect that inflation in the future will be lower than it currently is, the yield curve will A) be flat.B) be vertical. C) slope upward. D) be inverted. 89) In which of the following periods was the yield curve inverted? A) Februar y 2007 B) Februar y 2004 C) February 2010 D) The yield curve was not inverted during any of these periods. 89) 90) 90) The difference between the yield on 3-­‐month Treasury bills and 10-­‐year Treasury notes is largest91) typically during: A) when the yield curve is inverted B) recessions C) expansions D) periods of high inflation 91) What is a primary reason for the yield on 3-­‐month Treasury bills being low during recessions? A) rising inflation B) low risk premium C) the Fed pushing short-­‐term interest rates down D) the inversion of the yield curve 92) 92) Situations of negative interest rates on short-­‐term bonds resulted from: A) investors were looking for safe havens when other investments were perceived to be very risky B) very low risk premiums C) government regulations requiring financial firms to purchase government bonds D) high income tax rates 93) Which criterion is NOT useful when evaluating a theory? A) It has predictive power. B) It offers a model consistent with investor behavior. C) It explains actual data well. D) It fits one'ʹs pre-­‐conceived bias. 93) 94) 94) The additional interest that investors require to buy a long-­‐term bond instead of a sequence of95) short-­‐term bonds is known as the: A) term premium B) default premium C) segmented premium D) risk premium 95) Which theory explains all three facts about the term structure? A) segmented markets B) expectations C) preferential treatment D) liquidity premium 96) Almost every time that there has been an inverted yield curve, what took place within one year? A) recession B) financial crisis C) higher bond yields D) rising inflation Chapter 6 1) Limited liability can best be defined as the legal provision that 1) A) protects bond holders from being sued by other creditors. B) reduces the exposure of sole proprietorships to law suits. C) gives holders of preferred stock priority over holders of common stock. D) shields owners of a corporation from losing more than what they invested in a firm. 2) Which group of investors vote for a corporation'ʹs board of directors? 2) A) holders of preferred stock B) holders of common stock C) bond holders D) both holders of common and preferred stock 3) If a corporation pays a dividend, which group receives priority in receiving the 3) dividend? A) bond holders B) holders of preferred stock C) dividends are evenly divided by holders of common and preferred stock D) holders of common stock 4) 4) Dividends are A) payments to holders of common stock, not preferred stock. B) the total profit earned by a corporation. C) payments made to stock holders. D) payments made to bond holders. 5) Financial securities are exchanged by dealers linked by computers in a 5) A) over the counter market. B) financial exchange. C) stock exchange. D) public exchange. 6) Which of the following is NOT a popular stock market index? 6) A) NASDAQ B) Moody'ʹs Market Index C) Dow Jones Industrial Average D) S&P 500 7) In what way can the stock market affect the overall economy? 7) A) It is an important factor affecting consumer wealth and thus consumer spending. B) It can affect consumer and business sentiment. C) It'ʹs an important source of funds for corporations. D) All of the above 8) In Wall Street Jargon, a "ʺBear Market"ʺ typically means 8) A) stock prices have declined by at least 50%. B) stock prices have risen by at least 20%. C) stock prices have risen by at least 50%. D) stock prices have declined by at least 20%. 9) As of 2011, which of the following was the largest stock exchange in terms of total value traded? 9) A) Shanghai Stock Exchange B) the New York Stock Exchange C) London Stock Exchange D) Tokyo Stock Exchange 10) A corporation'ʹs market capitalization is best described as A) the total value of its common and preferred stock. B) the total value of its stocks and bonds. C) its total profit for a particular year. D) its average profit over a period of years. 11) The difference between a firm'ʹs assets and its liabilities is known as: A) limited liability B) stock C) profit 10) D) equity 11) 12) Using estimates of past returns, which monthly investment is most likely to result in the largest12) amount of money at retirement for a person in the early 20s? A) CDs B) stocks C) Treasury bills D) all of the above will result in a similar amount of money 13) What was the decline in the value of mutual funds held by households during the depths of the13) financial crisis, between the third quarter of 2008 and the first quarter of 2009 A) $2 trillion B) $2 million C) $2 billion D) $200 billion 17) The required return on equity for an individual stock includes which of the following? A) risk-­‐free interest rate B) idiosyncratic risk C) systemic risk D) all of the above 18) Suppose you plan to hold a stock for one year. You expect that, in one year, it will sell for $30 and pay a dividend of $3 per share. If your required return on equity is 10%, what is the most you should be willing to pay for the share today? A) $23 B) $3.30 C) $30 D) $33 19) The rate of return of a stock held for one year equals A) the dividend yield plus the rate of capital gain. B) the dividend yield minus the rate of capital gain. C) the rate of capital gain minus the dividend yield. D) the change in the price of the stock. 20) The fundamental value of a stock equals A) the present value of all future dividends. B) the present value of all future capital gains. C) the future value of all future dividends. D) the present value of current and future dividends. 17) 18) 19) 20) 21) According to the Gordon-­‐Growth model, what is the value of a stock with a dividend of $1, required return on equity of 10% and expected growth rate of dividends of 5%? A) $21 B) $10 C) $2 D) $20 22) According to the Gordon-­‐Growth model, what is the value of a stock with a dividend of $2, required return on equity of 8% and expected growth rate of dividends of 4%? A) $25 B) $52 C) $50 D) $26 23) A key point made by the Gordon-­‐Growth model is that the A) dividends have little to do with a stock'ʹs value. B) value of a stock depends on investor'ʹs expectations about the future profitability of a firm. C) risk has little effect on a stock'ʹs value. D) past trends in a stock'ʹs behavior indicate future price trends. 21) 22) 23) 24) According to the Gordon-­‐Growth model, which of the following can cause the value of a stock to24) decline? A) increased systemic risk B) increase in the current dividend C) decreased required return on equity D) higher expected growth rate of dividends 25) According to the Gordon-­‐Growth model, if the stock price is $21, required return on equity is 10%25) and the current dividend is $1, what is the expected growth rate of dividends? A) 2% B) 5% C) 15% D) 10% 26) According to the Gordon-­‐Growth model, an increase in the required return on equity A) increases the future value of the stock. B) reduces the value of a stock. C) reduces the expected growth rate of the dividend. 27) Which of the following expressions gives the present value of future dividends for a company whose current dividend is $5.00 and whose future dividends are expected to grow at rate g? A) [$5.00(1 -­‐ g)]/(i + g) B) [$5.00(1 + g)]/(i + g) C) [$5.00(1 -­‐ g)]/(i -­‐ g) D) [$5.00(1 + g)]/(i -­‐ g) 26) 27) 28) According to the Gordon-­‐Growth model, what will be the percentage change in the value of the 28) stock of a company whose current dividend is $10.00 and whose dividends had been expected to grow by 3% per year but now are expected to grow by 1% per year? A) -­‐66.0% B) -­‐31.1% C) -­‐23.7% D) -­‐4.0% 29) According to the Gordon-­‐Growth model, what will be the percentage change in the value of a stock of a company whose current dividend is $10.00 and whose dividends had been expected to grow by 3% but now are expected to grow by 4% per year? 29) A) 25.0% B) 17.8% C) 4.0% D) 33.3% 30) The double taxation of dividends typically refers to A) dividends being taxed first as corporate profits and then as income after being paid to stock holders. B) stock holders paying an income tax and dividend surtax on dividends. C) stock holders paying both income and social security taxes on dividends. D) dividends being taxed at both the state and local level. 31) Which of the following is NOT a result of the double taxation of dividends? A) The decline in retained profits results in increased inefficiency. B) The return investors receive from buying stocks is reduced, which reduces the incentive people have to save in the form of stock investments and increases the costs to firms of raising funds. C) Because profits that firms distribute to stockholders are taxed a second time, firms have an incentive to retain profits rather than to distribute them to stockholders. D) It gives firms an incentive to take on what may be an excessive level of debt rather than issue stock. 30) 31) 32) Since capital gains are only taxed when an investor sells an asset and realizes the gain, a possible32) result is: A) double taxation B) an increase in capital losses C) the locked-­‐in effect D) limited liability 33) A primary criticism of preferential tax treatment of dividends and capital gains is: A) there is no locked-­‐in effect resulting from taxation of capital gains B) it does not have any impact on efficiency C) there is not a double taxation of dividends D) it adversely affects the distribution of after-­‐tax income 33) 34) Expectations of asset values by participants in financial markets 41) A) are not possible to model, given the current state of economic knowledge. B) determine market prices, but are not related to changes in market prices. C) determine current market prices and changes in market prices. D) generally do not change. 35) If market participants rely only past stock prices to forecast future stock prices, 42) A) they have rational expectations. B) they will be better able to forecast future price increases than future price decreases. C) they have adaptive expectations. D) they will be better able to forecast future price decreases than future price increases. 36) When market participants have adaptive expectations 43) A) they only slowly adjust their expectations to news which could affect prices or returns. B) they are able to forecast interest rates more accurately than inflation rates. C) they are more likely to make accurate forecasts than if they have rational expectations. D) they use all information available to them. 44) George is trying to forecast the future price of IBM'ʹs common stock. To do so he makes use only of44) past prices of IBM stock. George A) is likely to rapidly adjust his forecast to news affecting the future profitability of IBM. B) has rational expectations. C) is likely to make forecasts that reflect closely IBM stock'ʹs fundamental value. D) has adaptive expectations. 45) When market participants have rational expectations, A) they are less likely to make accurate forecasts than if they have adaptive expectations. B) they only slowly adjust their expectations to news which could affect prices or returns. C) they use all information available to them. 45) D) they are able to forecast interest rates more accurately than inflation rates. 46) When market participants have rational expectations, A) their forecasts are always correct. B) the information they use contains not only past experiences, but also their expectations for the future. C) the information they use contains only past experiences. D) the information they use contains only their expectations for the future. 47) Rational expectations involve the assumption that A) market participants make use only of information on the past performance of an asset in determining what they believe its price should be. B) market participants makes use of all available information. C) financial markets are good at increasing liquidity, but poor at transmitting information. 46) 47) D) market participants rarely change their minds about the correct price of an asset. 48) An asset'ʹs fundamental value equals A) the weighted sum of its market price over the recent past. B) its face value. C) its maturity value. D) the market'ʹs best guess of the present value of the asset'ʹs expected future returns. 49) If traders in a market have rational expectations, then A) they make use of less information than they would if they had adaptive expectations. B) prices of riskier assets are higher than prices of less risky assets. C) the price of an asset equals its fundamental value. 48) 49) D) past prices of assets do not affect market participants'ʹ expectations of future asset prices. 50) Which of the following statements is true of rational expectations? A) If a trader really has rational expectations, he or she was always earn a greater than normal return on his or her financial portfolio. B) For a trader with rational expectations, the expectation of an asset'ʹs price equals the optimal price forecast. C) If traders have rational expectations, any announcement by a company will have an effect on its stock price, even if the market was already aware of the facts being announced. D) Rational expectations forecasts are always correct. 50) 51) When market participants have rational expectations, the deviation of the expected price from the51) actual future price is A) not predictable. B) predictable under certain circumstances, but not under others. C) predictable, provided all relevant information is made use of. D) zero. 52) If the prices of financial assets follow a random walk, then A) the change in price from one trading period to the next is not predictable. B) they should be easy to forecast, provided market participants have adaptive expectations. C) major traders in the market must not be making use of all available information about the assets. D) they should be easy to forecast, provided market participants have rational expectations. 52) 53) If market participants have rational expectations, then the best forecast of the price of a stock in the53) next period is A) dependent upon all information available in the current period, including, but not limited to, the price of the stock in the current period. B) dependent on information available in the previous period. C) equal to an average of the prices of the stock in previous periods. D) equal to the price of the stock in the current period. 54) If major traders believe the price of a stock should be higher than its current market price, A) they should petition the Securities and Exchange Commission to authorize an adjustment in the price of the stock. B) there is little they can do because government regulation precludes their acting on what they know. C) they have an incentive to sell the stock. D) their actions will result in the information they possess being incorporated into the price of the stock. 55) In an efficient market with rational expectations, the actual price of an asset A) equals its expected price plus a random error term. B) will equal its expected price. C) will often be below its expected price. D) will often be above its expected price. 54) 55) 56) The efficient markets hypothesis A) applies rational expectations to the pricing of assets. B) indicates that the stock market is efficient, but not rational. C) applies to the stock market, but not to the bond market. D) assumes that market participants form their expectations adaptively. 57) According to the efficient markets hypothesis, A) the expected price of an asset incorporates only information on past returns on the asset. B) the actual and expected prices of an asset will be equal. C) the equilibrium price of an asset equals the optimal forecast of fundamental value based on available information. D) the actual price of an asset reflects only information on past returns on the asset. 58) According to the Efficient Markets Hypothesis, prices of securities A) are not allowed, under federal securities laws, to change more frequently than once a month. B) change infrequently. C) change frequently to reflect news about changes in the fundamental values of the securities. 56) 57) 58) D) change frequently as evaluations of existing information about the securities change. 59) Under the efficient markets hypothesis, what would be the price per share of a company whose59) current dividend is $10.00 and whose dividends are expected to grow by 3% per year (assume the risk-­‐adjusted interest rate is 10%)? A) $79.23 B) $147.14 C) $142.86 D) $74.62 60) According to the efficient markets hypothesis, 60) A) the price of a corporation'ʹs stock will fluctuate significantly only in response to news about changes in the company'ʹs long-­‐term prospects. B) price fluctuations in common stock are a response to fads and are only infrequently the result of changes in the expected profitability of the companies involved. C) common stock prices should be constant. D) the price of a corporation'ʹs stock is likely to fluctuate substantially in response to news about changes in the company'ʹs short-­‐term prospects. 61) According to the efficient markets hypothesis, who is most likely to benefit from frequently 61) moving funds from one asset to another? A) your broker B) only those who consistently beat the market C) small investors D) big investors 62) Under the efficient markets hypothesis, for news about a company'ʹs prospects to have a large 62) impact on the price of the company'ʹs stock the news must A) significantly increase the likelihood that the company will go bankrupt. B) significantly reduce the liquidity of the company'ʹs stock. C) have an impact on the company'ʹs profitability in the short term. D) have an impact on the company'ʹs profitability in the long term. 63) An implication of the efficient markets hypothesis is that A) only sophisticated investors will be able to earn above-­‐normal profits from financial investments. B) unless he or she acts recklessly, the average investor should be able to make above-­‐normal profits. C) above-­‐normal profits will be eliminated in the trading process. D) above-­‐normal profits are available only to major traders. 64) Above-­‐normal returns on stock investments can be expected by investors who A) are wealthy enough to hold the stock of many different companies in their portfolios. B) are risk seeking. C) possess insider information. D) concentrate their investments in one or two stocks. 65) One implication of the efficient markets hypothesis is that investors should A) hold a diversified portfolio of assets. B) concentrate their investments in just a few well-­‐ chosen assets. C) buy stocks rather than bonds. D) buy bonds rather than stocks. 66) An investor will generally find that hiring an investment firm to actively manage his or her portfolio will A) result in about the same return, but be more expensive than placing money in an index mutual fund. B) result in a higher return, but will be more expensive than placing money in an index mutual fund. C) result in a higher return than would be received from an index mutual fund. D) be less expensive than simply placing money in an index mutual fund. 63) 64) 65) 66) 67) In comparing actively managed mutual funds with those funds that simply buy and hold a large67) market portfolio (index funds), we would expect that A) index funds provide a lower return than actively managed funds only if taxes are taken into consideration. B) actively managed funds and index funds provide the same returns. C) the index funds provide a higher return after expenses than the actively managed funds. D) the actively managed funds provide a higher return than the index funds. 68) "ʺTips"ʺ published in leading commercial or financial publications are unlikely to lead to profitable68) trades because A) the news will already be reflected in the market prices of the assets. B) only wealthy individuals can buy stocks in the volume necessary to take advantage of tips. C) the news contained in the tips is usually inaccurate. D) whatever is gained by trading on the basis of tips will be taxed away by the government. 69) According to the efficient markets hypothesis, the difference between today'ʹs price for a share of 69) stock and tomorrow'ʹs price is A) equal to today'ʹs price minus yesterday'ʹs price. B) predictable given currently available information. C) unforecastable. D) zero. 70) Suppose Exxon-­‐Mobil announces that its profits in the third quarter of 2013 were $40 billion. This will cause the price of Exxon-­‐Mobil stock to A) fall. B) remain unchanged. C) rise. D) rise, fall, or remain unchanged depending on the expectations of market participants before the announcement. 71) Suppose that Google announces that its profits for the third quarter of 2013 were $1.6 billion. As a result of this announcement the price of Google'ʹs stock declines. The best explanation of this is A) market participants have adaptive expectations. B) market participants expected Google'ʹs profits to be less than $1.6 billion for the third quarter. C) the stock market is not an efficient market. D) market participants expected Google'ʹs profits to be greater than $1.6 billion for the third quarter. 82) In the context of the evaluation of the efficient markets hypothesis, pricing anomalies refer to 85) A) the spread between the price at which a broker will purchase stock from an investor and the price at which the broker will sell stock to an investor. B) the difficulty in practice of computing stock prices on the basis of expectations of future dividends. C) the gap between actual and expected prices. D) the existence of trading strategies that appear to have offered above-­‐normal returns. 86) The economist known for his early empirical work supporting the efficient markets hypothesis is A) Milton Friedman. B) Eugene Fama. C) Glenn Hubbard. D) John Muth. Suppose that research shows that by buying stocks issued by companies whose names begin with the letter G investors can earn above-­‐normal returns in even-­‐numbered years. From the perspective of the efficient markets hypothesis, B) this is further evidence that the hypothesis is correct. C) this would be considered a pricing anomaly. D) purchasers of these stocks must have been noise traders. E) investors must have insider information on these companies. 87) The small-­‐firm effect A) was stronger during the 1980s than in previous decades. B) shows that investments in the stocks of small firms would have earned a below-­‐normal return during the period beginning in the mid-­‐1920s. C) may be the result of the low liquidity and high information costs of small-­‐firm stock. D) is the tendency for stocks of large firms to outperform those of small firms. 88) The January effect A) refers to the gap between futures prices and the prices of the underlying securities that occurs each January. B) largely disappeared after receiving attention in the 1980s. C) is the observation that stocks tend to be sold off in January. D) was stronger during the 1980s than during previous decades. 86) 87) 88) 89) 89) Mean reversion refers to the tendency for A) the long-­‐run mean return on stocks to equal the long-­‐run mean return on bonds. B) futures prices to revert to the prices of the underlying securities. C) stocks with high returns today to experience low returns in the future and for stocks with low returns today to experience high returns in the future. D) financial analysts whose stock picks have earned above-­‐normal returns in the past to be unable to pick stocks that will perform as well in the future. 90) Momentum investing can be described as A) similar to mean reversion. B) consistent with the efficient markets hypothesis. C) the trend is your friend. D) follow the picks of investors who have been successful in the past. 91) Excess volatility refers to A) the larger movements in market prices of stock than in their fundamental values. B) the unwillingness of financial analysts to consistently recommend the same stocks. C) the greater volatility of futures prices compared to the volatility of prices of the underlying assets. 90) 91) 92) D) the tendency for stocks with high rates of returns also to have quite variable returns. 92) How can the Gordon Growth model help explain the major decline in stock indexes during 2007-­‐93) 2009? A) There was a decrease in the required return on equities and an increase in the expected growth rate of dividends. B) There was an increase in the required return on equities and a decrease in the expected growth rate of dividends. C) There was an increase in the required return on equities and an increase in the expected growth rate of dividends. D) There was a decrease in the required return on equities and a decrease in the expected growth rate of dividends. 93) The efficient markets hypothesis implies that stock investments should have the same expected 94) return after adjusting for A) risk. B) liquidity. C) information costs. D) all of the above. 94) Stocks of small firms have a higher annual average return than stocks in general. Some economists 95) attribute this to: A) lower liquidity of stocks of small firms B) higher information costs of stocks of small firms C) compensation for the higher risk of small firms D) all of the above 95) What factors do some who promote the profitability of elaborate trading strategies leave out? 96) A) ignoring the effect of dividends B) the effect of trading costs and taxes C) not accounting for both capital gains and dividends D) the difficulty of calculating the return on investment 72) Suppose Apple announces that its earnings for the fourth quarter of 2013 rose to $2 billion. As a result of this announcement the price of Apple'ʹs stock does not change. The best explanation of this is A) market participants expected Apple'ʹs earnings to be less than $2 billion. B) market participants were expecting Apple'ʹs earnings to be greater than $2 billion. C) market participants have adaptive expectations. D) market participants expected Apple'ʹs earnings to be $2 billion. 73) The efficient markets hypothesis predicts that an investor A) will be able consistently to earn above-­‐normal profits from buying or selling stocks so long as he makes use of adaptive expectations. B) will not be able consistently to earn above-­‐normal profits from buying or selling stocks. C) will be able consistently to earn above-­‐normal profits from buying or selling stocks so long as he or she makes use of rational expectations. D) will be able consistently to earn above-­‐normal profits so long as stock prices in general are rising. 74) According to the efficient markets hypothesis, who should earn the highest risk-­‐adjusted return on stocks? A) someone throwing darts at possible stock picks B) a financial expert who can devote considerable time to research C) the average investor who doesn'ʹt do too much research D) all of the above should earn the same average return 75) Technical Analysis is a version of: A) adaptive expectations B) rational expectations C) insider trading D) efficient markets A chief criticism of adaptive expectations is that B) it doesn'ʹt rely on technical analysis C) it assumes people ignore information that would be useful in making forecasts D) it violates the efficient markets hypothesis E) people have a hard time adapting 76) If market participants have rational expectations, A) they will achieve higher returns than those with adaptive expectations B) they can earn above-­‐average returns on their investments C) they can assume the stock prices they observe represent the fundamental values of those stocks 74) 75) 76) 77) D) they know to purchase stocks that are priced below their fundamental value 77) Employees of brokerage firms that rely on forecasting future profits of firms in order to forecast 78) future stock prices are called A) technical analysts B) adaptive analysts C) rational analysts D) fundamental analysts 78) Which type of analyst should generally outperform market index according to the Efficient Markets Hypothesis? A) fundamental analysts B) those that follow the random walk C) technical analysts D) none of the above 79) 79) Which type of stock should result in the best return according to the Efficient Markets Hypothesis? 80) A) a firm that is considered to be undervalued B) a firm expected to earn little profit in the future C) a firm that is expected to be highly profitable in the future D) none of the above 80) Which of the following bonds will have the highest yield-­‐to-­‐maturity if all three bonds appear81) identical to investors in terms of risk, liquidity, information costs, tax treatment? A) one with a coupon of $100 B) one with a coupon of $50 C) one with a coupon of $200 D) none of the above 83) In a competition of financial analysts vs. throwing a dart to choose stocks, according Burton 82) Malkiel, financial analysts came out ahead due to all of the following reasons EXCEPT: A) failure of the Efficient Markets Hypothesis B) it considered only stock prices, not dividends C) part of the return for the analysts resulted from compensation for the higher risk of the stocks chosen D) investors that followed the contest were influenced to purchase the stocks recommended by the analysts 84) In the context of the evaluation of the efficient markets hypothesis, pricing anomalies refer to 85) A) the spread between the price at which a broker will purchase stock from an investor and the price at which the broker will sell stock to an investor. B) the difficulty in practice of computing stock prices on the basis of expectations of future dividends. C) the gap between actual and expected prices. D) the existence of trading strategies that appear to have offered above-­‐normal returns. 86) The economist known for his early empirical work supporting the efficient markets hypothesis is A) Milton Friedman. B) Eugene Fama. C) Glenn Hubbard. D) John Muth. 87) Suppose that research shows that by buying stocks issued by companies whose names begin with the letter G investors can earn above-­‐normal returns in even-­‐numbered years. From the perspective of the efficient markets hypothesis, E) this is further evidence that the hypothesis is correct. F) this would be considered a pricing anomaly. G) purchasers of these stocks must have been noise traders. H) investors must have insider information on these companies. The small-­‐firm effect E) was stronger during the 1980s than in previous decades. F) shows that investments in the stocks of small firms would have earned a below-­‐normal return during the period beginning in the mid-­‐1920s. G) may be the result of the low liquidity and high information costs of small-­‐firm stock. H) is the tendency for stocks of large firms to outperform those of small firms. The January effect E) refers to the gap between futures prices and the prices of the underlying securities that occurs each January. F) largely disappeared after receiving attention in the 1980s. G) is the observation that stocks tend to be sold off in January. H) was stronger during the 1980s than during previous decades. 87) 88) 89) 88) Mean reversion refers to the tendency for E) the long-­‐run mean return on stocks to equal the long-­‐run mean return on bonds. F) futures prices to revert to the prices of the underlying securities. G) stocks with high returns today to experience low returns in the future and for stocks with low returns today to experience high returns in the future. H) financial analysts whose stock picks have earned above-­‐normal returns in the past to be unable to pick stocks that will perform as well in the future. 89) Momentum investing can be described as A) similar to mean reversion. E) consistent with the efficient markets hypothesis. F) the trend is your friend. G) follow the picks of investors who have been successful in the past. Excess volatility refers to E) the larger movements in market prices of stock than in their fundamental values. F) the unwillingness of financial analysts to consistently recommend the same stocks. G) the greater volatility of futures prices compared to the volatility of prices of the underlying assets. 90) 91) 92) H) the tendency for stocks with high rates of returns also to have quite variable returns. 90) How can the Gordon Growth model help explain the major decline in stock indexes during 2007-­‐93) 2009? E) There was a decrease in the required return on equities and an increase in the expected growth rate of dividends. F) There was an increase in the required return on equities and a decrease in the expected growth rate of dividends. G) There was an increase in the required return on equities and an increase in the expected growth rate of dividends. H) There was a decrease in the required return on equities and a decrease in the expected growth rate of dividends. 96) The efficient markets hypothesis implies that stock investments should have the same expected 94) return after adjusting for A) risk. B) liquidity. C) information costs. D) all of the above. 97) Stocks of small firms have a higher annual average return than stocks in general. Some economists 95) attribute this to: A) lower liquidity of stocks of small firms B) higher information costs of stocks of small firms C) compensation for the higher risk of small firms D) all of the above 98) What factors do some who promote the profitability of elaborate trading strategies leave out? 96) A) ignoring the effect of dividends E) the effect of trading costs and taxes F) not accounting for both capital gains and dividends G) the difficulty of calculating the return on investment 99) Noise traders 98) A) make use of inside information. B) reduce the amount of risk in the market. C) pursue trading strategies based on inflated view of their ability to understand the significance of a piece of news. D) help to ensure that asset prices reflect the fundamental values of the securities being traded. 100) Behavioral economics can best be described as 99) A) the study of human economic behavior. B) the basis for efficient markets. C) the study of situations in which people'ʹs choices do not appear to be economically rational. D) the study of how the economy affects human behavior. 101) Which of the following is an example of behavior that is not rational? 100) A) buying stocks after stock prices have declined B) enrollment in 401K plans during a bear market C) buying stocks after stock prices have risen D) a significantly higher enrollment in 401K plans if people are automatically enrolled rather than having the option of signing up on their own 102) Noise traders involves investors who 101) A) overreact to good and bad news. B) filter out the noise involved in following their stocks. C) ignore new information about stocks. D) strictly follow the efficient markets hypothesis. 103) Noise traders 102) A) tend to make higher returns than do "ʺbuy-­‐and-­‐hold"ʺ investors. B) create additional risk in the market by increasing price fluctuations. C) trade only when they have inside information. D) tend to lose money on stock trades, but help to stabilize the market. 103) A bubble occurs when103) A) the price of a stock is above its fundamental value. B) inside information is used to make profits from trading a company'ʹs stock. C) the futures price is greater than the price of the underlying asset. D) a company reports profits that are significantly above or below the expectations of financial analysts. 104) The "ʺgreater fool"ʺ theory assumes that 104) A) markets are efficient. B) bond market returns are always above stock market returns. C) it makes sense for an investor to buy an asset as long as there is someone else to buy it later for a higher price. D) bubbles cannot exist in well-­‐organized markets. 105) Herd behavior can best be described as 105) A) informed investors can outperform relatively uninformed investors. B) the large number of investors involved in the stock market. C) relatively uninformed investors follow the behavior of other investors instead of consider fundamentals. D) how large participation in financial markets increase market efficiency. 106) All of the following are possible consequences of noise traders EXCEPT A) herd behavior contributing to speculative bubbles. B) increased volatility in the financial market. C) reduced volatility of asset prices. D) asset prices differing from fundamental values. 107) When economists say consumers, firms, or investors are behaving rationally, they mean: A) they recognize that it is not worthwhile to invest in risky stocks B) they are consistently able to avoid poor performing stocks C) they are taking actions to reach their goals, given the available information D) they have significant investment expertise 106) 107) 108) Which of the following is a behavior inconsistent with the Efficient Markets Hypothesis? 108) A) the purchase of a stock index fund B) avoiding active trading of stocks C) holding onto a losing stock while being more likely to sell a stock that has increased in value D) diversification of one'ʹs portfolio 109) Given the behavior of the stock market in recent years: 109) A) many economists still believe that it is unlikely that investors can hope to earn above-­‐average returns in the stock market by following traditional strategies B) most economists still think the efficient markets hypothesis is an accurate description of the daily behavior of the stock market C) most economists think the efficient markets hypothesis provides little insight into the behavior of the stock market D) most economists think the rational investor can outperform the stock market in the long run Answer: A Chapter 7 MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question. 1) In derivative markets, trade takes place in 1) A) assets such as bonds or common stock that derive their value from the value of the companies which issue them. B) assets whose rates of returns must be derived from information published in financial tables. C) assets which are not allowed to be traded on organized exchanges. D) assets that derive their value from underlying assets. 2) Derivative instruments are 2) A) assets which derive their value from underlying assets. B) assets such as bonds or common stock that derive their value from the value of the companies which issue them. C) assets whose rates of returns must be derived from information published in financial tables. D) computers which display real-­‐time financial information. 3) Which of the following is NOT a benefit of derivatives? 3) A) risk sharing B) liquidity C) guaranteed minimum profit D) information services 4) Suppose you are a manager for a company that produces grape jelly. Which of the following is the4) best way for you to reduce your risk? A) acquire a derivative that increases in value if grape jelly prices increase B) sell a derivative that increases in value if grape jelly prices increase C) sell a derivative that increases in value if grape prices increase D) acquire a derivative that increases in value if grape prices increase 5) The most important derivative instruments are 5) A) common and preferred stocks. B) futures, options, and swaps. C) corporate bonds. D) government bonds. Hedgers are primarily interested in 6) B) increasing market liquidity. C) reducing their exposure to the risk of price fluctuations. D) betting on anticipated changes in prices. E) reducing the spread between bid and ask prices on bonds. 6) Speculators are primarily interested in 7) A) betting on anticipated changes in prices. B) reducing the spread between bid and ask prices on bonds. C) reducing their exposure to the risk of price fluctuations. D) increasing market liquidity. 7) Profits from speculation arise because of 8) A) disagreements among traders about future prices of a commodity or financial instrument. B) the spread between the bid and ask prices on bonds. C) the high information costs in markets for derivative instruments. D) the illiquidity of markets for derivative instruments. 8) Speculators in derivatives markets 9) A) accept risk transferred to them by hedgers. B) reduce the efficiency of these markets. C) are acting contrary to U.S. securities laws. D) reduce the liquidity of these markets. 9) How does hedging affect the flow of funds in the financial system? 10) A) It reduces it because it increases risk by encouraging speculation. B) It reduces it since it is a sign that investors do not like risk. C) It increases it by encouraging more speculation. D) It increases it because it reduces risk thus encouraging more people to make financial investments. 10) If insurance is available on an activity: 11) A) it increases the risk of engaging in that activity B) investors will be less likely to hedge C) more of that activity will occur D) less of that activity will occur Which of the following is NOT a result of the ability of investors to hedge? 12) B) investors are more willing to invest C) increased risk aversion D) slower economic growth E) increased access to funds by firms and households 11) Using forward transactions allows 14) A) both buyers and sellers to reduce risks associated with price fluctuations. B) corporations to reduce problems arising from future fluctuations in their dividend payments. C) the federal government to stabilize fluctuations in tax receipts. D) holders of common stock to lock in future dividend payments. 12) Spot transactions 15) A) are relatively unimportant in financial markets. B) may only take place in face-­‐to-­‐face trading. C) involve immediate settlement. D) take place on-­‐the-­‐spot, rather than on an organized exchange. 13) Forward transactions 16) A) allow savers and borrowers to postpone a transaction from now to the future. B) may not be conducted on organized exchanges. C) always involve increased risk compared with spot transactions. D) allow savers and borrowers to conduct a transaction now and settle in the future. 14) Forward transactions would be useful to 17) A) a business wanting to expand its operations in overseas markets. B) a household wanting to reduce its future tax liability. C) a business wanting to know the cost of its funds on future loans. D) a government wanting to know the size of its future debt. 15) Forward transactions originated in the market for 18) A) agricultural and other commodities. B) government bonds. C) common stock. D) corporate bonds. 19) Forward transactions A) have information problems. B) are very liquid. C) provide little risk sharing. D) are widely used by sellers of commodities, but rarely used by buyers of commodities. 19) 20) Forward contracts are often illiquid because 20) A) they generally contain terms specific to the particular buyer and seller. B) government regulation has not provided for a secondary market in them. C) any capital gains on them are heavily taxed, making investors reluctant to sell them. D) the brokerage fees involved in buying and selling them are very high. 21) The existence of counterparty risk A) has no effect on the contracting parties. B) results in information costs for buyers and sellers when analyzing the potential creditworthiness of potential trading partners. C) is disallowed under current government regulations. D) reduces the risk introduced by forward contracts. 21) 22) Forward transactions A) provide risk sharing. C) entail small information costs. Forward contracts B) are subject to default risk. C) provide little risk sharing. provide substantial liquidity. D) provide reduced tax payments. B) entail small information costs. D) are highly liquid. 22) 23) 23) When talking about forward contracts, the date on which the contracted delivery must take place is called: A) the counterparty date B) forward date C) the settlement date D) spot date The person on the other side of a transaction is referred to as the: 24) 25) B) speculator B) derivator C) hedger D) counterparty 24) A futures contract is 28) A) an agreement that specifies the delivery of a commodity or financial instrument at an agreed-­‐ upon future date at a currently agreed-­‐upon price. B) an agreement that specifies the delivery of a commodity or financial instrument at a currently agreed-­‐upon price, with date of delivery to be negotiated subsequently. C) an agreement that specifies the delivery of a commodity or financial instrument, with the price and date of delivery to be negotiated subsequently. D) an agreement that specifies the delivery of a commodity or financial instrument at an agreed-­‐ upon future date, with the price to be negotiated at the time of delivery. 25) The counterparty of someone buying a futures contract on the Chicago Board of Trade is:: 29) A) speculator B) Chicago Board of Trade C) hedger D) trader 26) If you look at the financial page listings for futures contracts and find that futures prices on 30) Treasury bonds are falling over a particular time period, futures market investors must expect that A) Treasury bond yields will be higher in the future. B) futures prices will rise again at the end of the period. C) Treasury bond yields will be lower in the future. D) Treasury bond prices will be higher in the future. 31) Standardization of derivative contracts 31) A) increases their liquidity. B) is the rule with respect to contracts whose underlying asset is a commodity, but not for contracts whose underlying asset is a financial asset. C) is the rule with respect to contracts whose underlying asset is a financial security, but not for contracts whose underlying asset is a commodity. D) has been proposed many times by financial analysts, but has not yet been carried out by the SEC. 32) In recent decades, 32) A) trading in financial futures increased in importance relative to trading in agricultural and mineral commodities futures. B) trading in financial futures was discontinued. C) trading in financial futures declined in importance relative to trading in agricultural and mineral commodities futures. D) trading in agricultural and commodities futures was discontinued. 33) Which of the following statements regarding futures is true? 33) A) trading in financial futures involves more transactions than trading in commodity futures. B) futures trading is allowed only for commodities. C) trading futures contracts on agricultural and mineral commodities makes up a majority of all trading. D) futures trading is allowed only for financial assets. 34) The buyer of a futures contract 34) A) assumes the short position. B) may not sell the contract without the permission of the original seller. C) assumes the long position. D) has the obligation to deliver the underlying financial instrument at the specified future date. 35) The buyer of a futures contract 35) A) has the obligation to deliver the underlying financial instrument at the specified date. B) assumes the short position. C) has the obligation to receive the underlying financial instrument at the specified future date. D) may, at his or her option, deliver or receive the underlying financial instrument at the specified date. 36) The seller of a futures contract 36) A) has the obligation to receive the underlying financial instrument at the specified future date. B) is expecting the price of the underlying financial instrument to rise. C) assumes the short position. D) assumes the long position. 37) The seller of a futures contract 37) A) may, at his or her option, deliver or receive the underlying financial instrument at the specified date. B) assumes the long position. C) has the obligation to receive the underlying financial instrument at the specified future date. D) has the obligation to deliver the underlying financial instrument at the specified date. 38) Futures trading has traditionally been dominated by A) the London Stock Exchange. B) the Omaha Grain Exchange. C) the New York Stock Exchange. D) the Chicago Board of Trade and the New York Mercantile Exchange. 39) Which of the following financial futures contracts are traded in the United States? A) Interest rates B) Currencies C) Stock indexes D) All of the above 40) Financial futures contracts are regulated by A) the Federal Trade Commission. B) the Options and Futures Commission. C) the Commodity Futures Trading Commission. D) the Interstate Commerce Commission. 41) The role of the Commodity Futures Trading Commission is to A) operate the Chicago Mercantile Exchange. B) operate the Chicago Board of Trade. C) monitor potential price manipulation in futures trading. D) set the prices of futures contracts. 42) The initial deposit required by a buyer or seller of a futures contract is known as A) credit. B) debit. C) marking. D) margin requirement. 43) Marking to market involves 43) A) changing the futures price to the spot price each day. 40) 41) 42) B) crediting or debiting the margin account based on the net change in the value of the futures contract. C) updating the futures price after the market closes each day. D) engaging in arbitrage so as to reduce the risk involved with futures contracts. 44) The futures price 44) A) is always equal to the spot price at every point in time. B) is always below the spot price on the day of delivery. C) is always above the spot price on the day of delivery. D) reflects traders'ʹ expectations of the spot price on the day of delivery. 45) Which of the following is NOT an advantage of a futures contract over a forward contract? 45) A) increased liquidity B) lower information cost C) reduced counterparty risk D) increased flexibility 46) As the time of delivery in a futures contract gets closer 46) A) the futures price gets closer to the spot price. B) the futures price generally rises further above the spot price. C) the futures and spot prices remain the same as they were when the contract was first created. D) the futures price generally falls further below the spot price. 47) On the day of delivery A) there is no necessary relation between the spot price and the futures price. B) the spot price will be greater than the futures price by an amount equal to the current interest rate times the futures price. C) the spot price will equal the futures price. D) the futures price will be greater than the spot price by an amount equal to the current interest rate times the spot price. 47) 48) If you buy a futures contract for U.S. Treasury bills and on the delivery date the interest rate on T-­‐ 48) bills is lower than you expected, you will have A) lost money on your short position. B) gained money on your long position. C) gained money on your short position. D) lost money on your long position. 49) If you sell a futures contract for U.S. Treasury bills and on the delivery date the interest rate of T-­‐ bills is higher than you expected, you will have A) gained money on your long position. B) lost money on your short position. C) lost money on your long position. D) gained money on your short position. 50) Marking to market refers to A) the determination of the prices of options contracts by the interaction of demand and supply. B) the settlement of gains and losses on futures contracts each day. C) the determination of the prices of futures contracts by the interaction of demand and supply. D) the settlement of gains and losses on forward contracts each day. 51) The terms of futures contracts traded in the United States are A) standardized as to amount or value and as to settlement dates. B) not standardized, but are determined entirely on the basis of the agreement entered into by the buyer and seller. C) standardized as to amount or value, but not as to settlement dates. D) standardized as to settlement dates, but not as to amount or value. 52) Futures trading practices in the United States are regulated by A) the Board of Futures Trading. B) the Chicago Board of Trade. C) the Commodities Futures Trading Commission. D) the Chicago Mercantile Exchange. 53) If the price of a futures contract increases, then A) the exchange will collect the amount of the increase from the seller of the contract and transfer it to the account of the buyer of the contract. B) the exchange will collect the amount of the increase from both the buyer and the seller and place it in escrow until the delivery date. C) the additional funds will be required from either the buyer or the seller until the delivery date. D) the exchange will collect the amount of the increase from the buyer of the contract and transfer it to the account of the seller of the contract. 54) Which of the following statements about the presence of speculators in futures markets is correct? A) Once a futures market participant is known to be a speculator he or she is no longer allowed to participate in the market. B) They make it difficult for hedgers to find someone to take the opposite side of their positions. C) They aid hedgers by increasing the liquidity in futures markets. 52) 53) 54) D) Their main objective is to reduce their exposure to risk. 55) A lender who is worried that its cost of funds might rise during the term of a loan it has made can55) hedge against this rise by A) selling futures contracts on Treasury bills. B) buying call options on Treasury bills. C) increasing the amount of money which it lends. D) buying futures contracts on Treasury bills. 56) A speculator who believes strongly that interest rates will rise would be likely to A) sell futures contracts on Treasury bills. B) increase now the amount of money which he lends. C) buy Treasury bonds in the spot market. D) buy futures contracts on Treasury bills. 57) A speculator who believes strongly that interest rates will fall would be likely to A) decrease now the amount of money which he lends. B) sell Treasury bonds in the spot market. C) sell futures contracts on Treasury bills. D) buy futures contracts on Treasury bills. 58) All of the following are roles of a exchange EXCEPT A) instituting margin requirements on futures contracts. B) marking to market at the end of each day. C) reducing the default risk involving forward contracts. D) eliminate the need for buyers and sellers of futures contracts to be concerned about the creditworthiness of each other. 56) 57) 58) 59) Which of the following accurately describes possible positions taken by hedgers? A) may take a short position in the spot market to offset a long position in the futures market B) may take a short position in the futures market to offset a long position in the spot market C) may take a long position in the spot market to offset a short position in the futures market D) may take a long position in the futures market to offset a long position in the spot market 60) Which of the following best characterizes the profit of a buyer of a futures contract? A) spot price at purchase minus futures price at settlement B) spot price at settlement minus futures price at purchase C) futures price at purchase minus spot price at settlement D) futures price at settlement minus spot price at purchase Why do investors hedge using futures contracts? C) in order to provide a counterparty to speculators B) they are more flexible than forward contracts C) they are willing to pay for a reduction in risk D) they are seeking to increase liquidity 61) How can a bond investor hedge against a possible bear market in bonds? A) sell futures contracts on Treasury notes B) going short in the spot market C) going long in the spot market D) buy futures contracts on Treasury notes 59) 60) 61) 62) 62) An order from an exchange for a seller to add enough funds to meet the minimum balance in a 63) margin account is called: A) margin option B) margin call C) margin put D) maintenance margin 63) An options contract 71) A) is another name for a futures contract. B) confers the rights to buy or sell an underlying asset at a predetermined price by a predetermined time. C) may be written for debt instruments, but not equities. D) may be written for equities, but not for debt instruments. 64) One difference between futures and options contracts is 72) A) funds change hands daily in the case of futures, but not with options. B) futures are designed to reduce risk while options are not. C) in the case of futures funds only change hands when they are exercised. D) funds change hands daily in the case of options but not with futures. 65) In comparing futures contracts with options contracts, we can say that 73) A) in a futures contract, the buyer and seller have asymmetric rights, whereas in an options contract, the buyer and seller have symmetric rights. B) in a futures contract, the buyer and seller have symmetric rights, whereas in an options contract, the buyer and seller have asymmetric rights. C) in both futures and options contracts, the buyer and seller have symmetric rights. D) in both futures and options contracts, the buyer and seller have asymmetric rights. 66) In a call options contract, the 74) A) seller has the obligation to deliver the instrument at a specified time. B) buyer has the obligation to receive the instrument at a specified time. C) buyer will choose to exercise his option only if the value of the underlying security falls. D) seller may choose whether or not to deliver the instrument at a specified time. 75) In a put options contract, the A) buyer has the obligation to deliver the instrument at a specified time. B) seller has the obligation to receive the instrument at a specified time. C) buyer has the obligation to receive the instrument at a specified time. D) seller has the obligation to deliver the instrument at a specified time. 76) The price at which an option may be exercised is called the A) strike price. B) equilibrium price. C) fixed price. D) market price. 77) In an options contract, another name for the strike price is the A) market price. B) fixed price. C) equilibrium price. D) exercise price. The mathematicians and economists who have been hired by Wall Street firms to build mathematical models to aid the pricing of derivatives are generally referred to as B) speculators. B) rocket scientists. C) market makers. D) hedgers. 75) 76) 77) 78) 78) The period over which a call or put option exists is 79) A) determined by its delivery date. B) determined by its expiration date. C) indeterminate; options contracts continue in existence until either the buyer or the seller desires to discontinue it. D) determined by whether the contract is written for a commodity or for a financial instrument. 79) The fee charged by the seller of an option is referred to as the 80) A) market price. B) call price. C) futures fee. D) option premium. 80) The intrinsic value of an option 81) A) is the amount the option is expected to be worth on its expiration date. B) is equal to the option premium. C) is the amount the option actually is worth if it is immediately exercised. D) is impossible to determine in the absence of information on the future prices of the underlying asset. 81) As an option nears its expiration date, the size of the premium approaches 82) A) infinity. B) its intrinsic value. C) zero. D) an amount which varies, depending on prevailing market interest rates on the expiration date. 82) A stock option is said to be "ʺout of the money"ʺ if: A) the strike price equals the exercise price. B) strike price exceeds the stock price. C) stock price exceeds the strike price. D) stock price equals the strike price. Suppose that Acme Widget is currently selling for $100 per share and you own a call option to buy Acme Widget at $75 per share. The intrinsic value of your option is A) $100. B) $75. C) $25. D) not possible to determine in the absence of information on values of the share price of Acme Widget between now and the expiration date of the call. 83) A call option is said to be "ʺin the money"ʺ if A) the price of the underlying asset is currently greater than the strike price. B) it has increased in price since it was first written. C) the price of the underlying asset is currently greater than the strike price plus the option premium. D) it is written on a Treasury bill or other money-­‐market asset. 84) A put option is said to be "ʺin the money"ʺ if A) it is written on a Treasury bill or other money-­‐market asset. B) the price of the underlying asset is currently less than the strike price. C) it has increased in price since it was first written. D) the price of the underlying asset is currently less than the strike price plus the option premium. 83) 84) 85) 86) 85) Which of the following factors would tend to increase the size of the premium on an options 87) contract? A) The current default-­‐risk-­‐free interest rate is high. B) The price volatility of the underlying asset is low. C) The option is near its expiration date. D) The option is far away from its expiration date. 86) A lender who is worried that its cost of funds might rise during the term of a loan it has made can hedge against this rise without eliminating the chance to profit from a decline in the cost of funds by A) buying call options on Treasury bills. B) buying futures contracts on Treasury bills. C) buying put options on Treasury bills. D) selling futures contracts on Treasury bills. 87) and options A) reflects a trade-­‐off between the greater risk from using options and the extra insurance benefits that options provide. B) reflects a trade-­‐off between the higher cost of using options and the extra insurance benefits that options provide. C) depends on whether the underlying instrument is a debt instrument or an equity. D) reflects a trade-­‐off between the higher cost of using futures and the extra insurance benefits that futures provide. 88) An option buyer A) is purchasing a naked option if he or she does not also own the underlying asset. B) has a greater insurance benefit than the purchaser of a futures contract. C) generally will incur a lower cost than will the purchaser of a futures contract. D) bears the risk of unfavorable price movements. 88) 89) 90) 89) Which of the following statements is NOT true of the VIX? A) It is calculated based on prices of call and put options of the S&P 500. B) A VIX of 10 indicates investors expect the S&P 500 to fluctuate by 10% at an annual rate over the next 30 days. C) Investors who want to hedge against stock market volatility can sell VIX options. D) The VIX is a measure of fear in the stock market. 90) The primary difference between an American and European option is: A) American options must be exercised on the expiration date B) American options may be exercised at any point up until the expiration date C) European options must be exercised on the expiration date D) European options may be exercised at any point up until the expiration date Options traded on exchanges are known as: C) call options B) put options C) exchange traded options D) listed options When you borrow stock from a broker and sell it now with plans to buy it back after it drops in price, you are engaging in a D) American option B) short sale C) European option D) margin call 91) An investor who is considering hedging by selling Treasury futures can also hedge by: A) buying European Treasury options B) buying Treasury call options C) buying Treasury put options D) selling Treasury put options 91) 92) 93) 94) 95) 101) A swap is A) an agreement between two or more persons to exchange sets of cash flows over some future period. B) another name for a call option. C) the name for the replacement of a futures contract by an options contract. D) another name for a put option. 102) One benefit of a swap compared to futures and options is that they A) reduce the risk for both the buyer and seller. B) can involve financial instruments and not just commodities. C) can be better tailored to meet the needs of market participants. D) promote liquidity. 103) Swaps differ from futures and options in all of the following ways EXCEPT: A) more flexibility. B) more privacy. C) less regulation. D) intended to reduce the risk faced by participants. 101) 102) 103) 104) A shortcoming of swaps that has led to the domination of the swaps market by large firms and104) financial institutions is A) need to assess creditworthiness. B) desire for more flexibility. C) the lack of privacy. D) limited size of the market. 105) An interest rate swap involving the exchange of floating-­‐rate obligations for fixed-­‐rate obligations 105) is known as A) forward swaps. B) plain vanilla. C) swap option. 106) An advantage of a swap over futures and options is that A) they can be written for long periods. B) there is no need to assess the creditworthiness of participants. C) they carry less default risk. D) they are more liquid. swaption. 106) 107) A key reason that firms and financial institutions might participate in an interest rate swap is A) to transfer interest rate risk to parties that are more willing to bear it. B) the greater liquidity of swaps compared with other derivative contracts. C) the low information costs of swaps compared with other derivative contracts. D) the favorable tax implications of swaps compared with other derivative contracts. 108) All of the following are steps involved in basic currency swaps EXCEPT A) the parties exchange principals in two currencies. B) the parties exchange the principal amount at the end of the agreement. C) the parties exchange periodic interest payments over the life of the agreement. D) counterparties exchange the net interest at the end of the swap. 109) Which best describes a credit default swap? A) Issuers are taking out insurance in case of default. B) The issuer receives payments from the buyer in return for agreeing to make payments to the buyer if the security goes into default. C) It is designed to reduce interest-­‐rate risk. D) It represents a way for the issuer to establish its creditworthiness. E) 109) 107) 108) 110) All of the following describe the market for credit default swaps on mortgage-­‐backed securities in 110) the mid-­‐2000s EXCEPT A) an increasing number of buyers were speculators. B) payments by buyers were too low relative to risk. C) the volume of credit default swaps was too low making it difficult to assess their value. D) AIG apparently underestimated the risk involved with mortgage-­‐backed securities. 111) AIG almost went bankrupt in 2008 because A) the value of the securities underlying its credit default swaps declined significantly. B) prices of securities underlying their credit default swaps were hard to determine since they were no longer actively traded. C) it lacked the collateral required by buyers of its credit default swaps. D) all of the above. 112) All of the following are problems cited by Warren Buffet as problems with derivatives not traded on exchanges EXCEPT A) they involve substantial counterparty risk. B) firms do not set aside reserves against potential losses. C) they were not flexible enough due to lack of standardization. D) they are thinly traded which makes it difficult to determine their value. 113) The interest rate at which international banks loan to each other is called 113) A) LIBOR B) federal funds rate C) international bank lending rate D) prime rate 114) Which of the following is NOT a regulation applying to swap dealers as a result of the 114) Dodd-­‐Frank Act? A) Swaps must be traded through a clearinghouse. 111) 112) B) Dealers are required to deposit a fraction of the value of the contract with the clearinghouse. C) Data on trades must be publicly available. D) The value of swap contracts are limited to no more than $8 billion. 115) Which of the following referred to derivatives as "ʺfinancial weapons of mass destruction?"ʺ 115) A) Ben Bernanke B) Warren Buffett C) Michael Lewis D) Barack Obama [Show More]

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