Review For 2nd Quiz

Review for 2nd Quiz
savannahstate.edu/misc/dowlingw/3155/Practice%20Exams/Review%20for%202nd%20Quiz%20-%20Spring%202007.htm
1.
Stocks and bonds are an alternative to money as a store of value.
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2.
When individuals deposit cash in a demand deposit, the money supply is reduced.
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3.
The market in which securities are initially sold to the general public is the secondary market.
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4.
When an individual buys stock through a secondary market (e.g., the NYSE), the firm receives the sales
proceeds.
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5.
An investment banker specializes in corporate loans.
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6.
The risk associated with an underwriting rests with the investment bankers.
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7.
Short sellers profit when security prices decline.
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8.
When funds are deposited in a savings account, the excess reserves of banks are unaffected.
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9.
If a firm issues securities that are sold to a commercial bank, individuals' savings are directly transferred to
the firm.
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10.
When the Federal Reserve buys securities, the reserves of banks are increased.
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11.
During a period of recession, the Fed sells securities.
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12.
Since the reserves of commercial banks earn interest, there is an incentive to hold excess reserves.
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13.
The devaluation (depreciation) of one currency implies the revaluation (appreciation) of other currencies.
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Multiple Choice
Identify the choice that best completes the statement or answers the question.
14.
An investment banker
1.
is usually not a banker
2.
is frequently a division of a brokerage firm
3.
serves as a middleman between financial intermediaries and firms issuing new securities
a.
1 and 2
b.
1 and 3
c.
2 and 3
d.
only 3
ANSWER:
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REF:
5/33
15.
Venture capitalists
a.
buy existing securities
b.
are a source of funds for large firms
c.
buy securities issued by small, emerging firms
d.
register the securities they purchase with the SEC
ANSWER:
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16.
In an efficient market, security prices

a.
adjust rapidly to new information
b.
adjust slowly to new information
c.
poorly value a firm's future prospects
d.
indicate that the firm is overvalued
ANSWER:
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REF:
6/33
17.
A specialist
a.
stresses one type of investment
b.
only buys stock
c.
analyzes corporate securities
d.
makes a market in securities
ANSWER:
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18.
The New York Stock Exchange

a.
is a financial intermediary
b.
is a secondary market
c.
transfers funds to businesses
d.
forbids buying stock on margin
ANSWER:
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REF:
7/33
19.
A pension plan that grants mortgage loans

a.
is an example of a financial intermediary
b.
cannot suffer losses
c.
is called a savings and loan association
d.
is not a financial intermediary
ANSWER:
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20.
An investment bank is not a financial intermediary because

a.
it does not transfer money from investors to firms
b.
it does not create claims on itself
c.
it does facilitate the transfer of funds
d.
it creates claims on itself
ANSWER:
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FEEDBACK:
REF:
8/33
21.
When a commercial bank receives a cash deposit,

1.
its required reserves increase
2.
its required reserves decrease
3.
its total reserves increase
4.
its total reserves decrease
a.
1 and 3
b.
1 and 4
c.
2 and 3
d.
2 and 4
ANSWER:
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22.
The members of the Board of Governors are

a.
elected by the member banks
b.
appointed by the Senate
c.
appointed by the President of the United States
d.
elected by the Federal Open Market Committee
ANSWER:
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REF:
9/33
23.
The Federal Reserve may contract the money supply by

1.
selling securities
2.
buying securities
3.
raising reserve requirements
4.
lowering reserve requirements
a.
1 and 3
b.
1 and 4
c.
2 and 3
d.
2 and 4
ANSWER:
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FEEDBACK:
REF:
10/33
24.
If the federal government runs a surplus,

a.
expenditures exceed taxes
b.
receipts exceed disbursements
c.
debt must be issued
d.
the Federal Reserve buys bonds
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25.
Money serves as
a.
a substitute for equity
b.
a precaution against inflation
c.
a medium of exchange
d.
a risk-free liability
ANSWER:
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REF:
11/33
26.
If the initial offer price for new securities is too high, the underwriters may
1.
purchase the securities with their own funds
2.
sell the securities at the offer price
3.
let the price fall
a.
1 and 2
b.
1 and 3
c.
2 and 3
d.
1, 2, and 3
ANSWER:
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REF:
12/33
27.
If a stock is initially offered to the public for $20 in an underwriting but the price immediately falls to $15,
1.
the firm received $20 a share
2.
the initial investors sustain a loss
3.
demand exceeded supply
4.
supply exceeded demand
a.
1, 2, and 3
b.
1, 2, and 4
c.
2 and 3
d.
2 and 4
ANSWER:
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REF:
13/33
28.
An investment banker
1.
often underwrites new issues of securities
2.
may be a division within a brokerage firm
3.
facilitates the sale of new securities
a.
1 and 2
b.
1 and 3
c.
2 and 3
d.
all three
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29.
Which of the following is not part of the underwriting process?

a.
the prospectus
b.
the Federal Reserve
c.
the Securities and Exchange Commission
d.
the syndicate
ANSWER:
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REF:
14/33
30.
Which of the following is not part of the underwriting process?

a.
the syndicate
b.
the originating house
c.
the prospectus
d.
the secondary market
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31.
The Securities Investor Protection Corporation protects individuals from

a.
fraud by corporations
b.
making poor investment decisions
c.
other investors who fail to make delivery
d.
brokerage firm failures
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15/33
32.
The Securities and Exchange Commission regulates

a.
trading in publicly held securities
b.
trading in privately held securities
c.
the margin requirement
d.
the amount a stock's price may change
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33.
The regulation of security markets

a.
protects investors from poor investments
b.
is enforced by the Federal Reserve
c.
is enforced by the SEC
d.
applies only to government securities
ANSWER:
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REF:
16/33
34.
Efficient securities markets imply that

a.
investors cannot outperform the market
b.
investors cannot expect to outperform the market
c.
security prices are randomly determined
d.
there is little risk of loss over an extended investment horizon
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35.
An investor may place a limit order that

a.
limits the amount of commissions
b.
specifies when the stock will be purchased
c.
establishes the exchange on which the security is to be bought or sold
d.
states a price at which the investor seeks to buy or sell the stock
ANSWER:
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REF:
17/33
36.
If the quote on a stock is reduced,

1.
supply exceeded demand
2.
demand exceeded supply
3.
some potential buyers leave the market
4.
some potential buyers enter the market
a.
1 and 3
b.
1 and 4
c.
2 and 3
d.
2 and 4
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37.
Entering a sell order at $18.50 when the bid is 18-19

a.
is a market order
b.
illustrates a short sale
c.
requires a margin payment
d.
is a limit order
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REF:
18/33
38.
Which of the following is inconsistent with efficient securities markets?

a.
stock prices change rapidly in response to new information
b.
investors cannot expect to outperform the market consistently
c.
bond prices change rapidly in response to new information
d.
analysis of financial data will lead to superior investment performance
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39.
The power to create money is given by the Constitution to

a.
state governments
b.
Congress
c.
the Federal Reserve
d.
commercial banks
ANSWER:
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REF:
19/33
40.
The primary assets of life insurance companies include

a.
life insurance
b.
corporate securities
c.
municipal securities
d.
insurance policies
ANSWER:
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41.
If deposits are withdrawn from a commercial bank, it may obtain reserves by

a.
acquiring an asset
b.
borrowing in the federal funds market
c.
lending funds in the federal funds market
d.
liquidating a liability
ANSWER:
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REF:
20/33
42.
The purpose of the Federal Reserve is to

a.
finance government operations
b.
protect investors from bank failures
c.
protect deposits from bank failures
d.
control the supply of money and credit
ANSWER:
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43.
The structure of the Federal Reserve includes

1.
all commercial banks
2.
the twelve district banks
3.
the Board of Governors
a.
1 and 2
b.
1 and 3
c.
2 and 3
d.
1, 2, and 3
ANSWER:
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FEEDBACK:
REF:
21/33
44.
If the federal government runs a deficit and borrows from commercial banks,
1.
total deposits are not affected
2.
total deposits are increased
3.
excess reserves are reduced
4.
excess reserves are decreased
a.
1 and 3
b.
1 and 4
c.
2 and 3
d.
2 and 4
ANSWER:
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FEEDBACK:
REF:
22/33
45.
Anticipation of inflation discourages

1.
saving
2.
borrowing
3.
lending
4.
purchasing goods
a.
1 and 2
b.
1 and 3
c.
2 and 3
d.
3 and 4
ANSWER:
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46.
The Board of Governors

a.
manages the nation's stock of gold
b.
has the substantive control over the money supply
c.
controls the U. S. Treasury
d.
is appointed by the U. S. Treasurer
ANSWER:
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REF:
23/33
47.
The tools of monetary policy include

a.
open market operations
b.
the purchase of corporate stock
c.
the federal government deficit
d.
taxation
ANSWER:
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48.
Anticipation of inflation encourages

a.
lending
b.
borrowing
c.
retiring debt
d.
saving
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24/33
49.
During a period of recession the Federal Reserve

1.
increases the federal funds rate
2.
buys government securities
3.
sells government securities
4.
lowers the federal funds are
a.
1 and 2
b.
1 and 3
c.
2 and 4
d.
3 and 4
ANSWER:
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Problem
50.
What is a nation's cash inflow (outflow) on its current account and its capital account given the following
information? Was there a net currency inflow or outflow?
imports
$145
exports
211
direct investments abroad
72
foreign investments in the country
143
foreign purchases of domestic securities
86
purchases of foreign securities
29
net income from foreign investments
37
government spending abroad
22
25/33
RESPONSE:
ANSWER:
Debit
Credit
Current account
exports
$211
imports
$145
government spending abroad
22
net income from investment abroad
37
Balance on current account
$81
Capital account
direct investment abroad
72
foreign investment in U.S.

purchases of foreign securities
foreign purchases of U.S. securities
Balance on capital account
143
29
86
$128
In this problem there is a net credit balance on both the current and capital accounts,
which means there is a currency inflow. This inflow may be used to increase foreign
reserves or repay any loans from the IMF.
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REF:
26/33
51.
If the price of the European euro is $1.26, how many euros are necessary to purchase $1.00?
RESPONSE:
ANSWER:
A dollar is worth 0.79365 euros ($1/1.26).
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Supplementary
27/33
52.
If the reserve requirement for demand deposits is 10 percent, what is the maximum change in the money
supply that the banking system can create if
a.
the Federal Reserve puts $1,000,000 of new reserves in the banking system
b.
$1,000,000 in cash is deposited in checking accounts
c.
General Motors borrows $1,000,000 from an insurance company?
RESPONSE:
ANSWER:
a.
new excess reserves: $1,000,000

maximum possible expansion in the money supply:
$1,000,000/.1 = $10,000,000
b.
new excess reserves: $1,000,000 - 100,000 = $900,000

$900,000/.1 = $9,000,000
c.
new excess reserves: $0

$0/.1 = $0
(Borrowing from the non-bank public does not affect the banking system's
ability to create new money.)
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REF:
53.
What is the effect on (1) demand deposits, (2) required reserves, and (3) excess reserves of banks given
the following transactions?
a.
The general public builds up its holdings of cash by withdrawing funds in checking accounts.
28/33
b.
After Christmas the general public deposits cash in checking accounts in commercial banks.
(How may seasonal changes in the public's need for cash alter banks' ability to lend?)
c.
Corporations borrow from commercial banks.
d.
State and local governments issue debt securities that are purchased by commercial banks.
e.
Homeowners borrow from commercial banks to finance home improvements. (Are there any
differences on the expansion of the money supply in questions (c), (d), and (e)?)
f.
A bank in California with excess reserves lends these funds through the federal funds market to a
bank in Maine that has insufficient reserves.
g.
Corporations issue short-term securities that are purchased by the general public.
h.
Corporations retire (i.e., pay off) loans from commercial banks.
i.
The Federal Reserve buys Treasury bills that are sold by the general public.
j.
The Federal Reserve raises the discount rate, and banks retire debt owed the Federal Reserve.
k.
The Federal Reserve raises the reserve requirement on demand deposits.
l.
The Treasury borrows from the banks to finance payments.
m.
The federal government runs a deficit and borrows the funds from the general public.
n.
The federal government runs a deficit and borrows the funds from the Federal Reserve.
29/33
RESPONSE:
ANSWER:
a.
Demand deposits - lower

Required reserves - lower
Excess reserves - lower
b.
Demand deposits - higher

Required reserves - higher
Excess reserves - higher
These two questions illustrate that a seasonal flow of deposits into or out of
the banking system will affect the reserves of the banking system. Unless the
banks are able to find liquidity elsewhere (e.g., the Federal Reserve), such
seasonal changes in reserves may produce fluctuations in the supply of
credit.
c.

d.

e.

These three questions illustrate that from the viewpoint of the banking
system, it does not matter if the banks acquire debt issued by firms,
governments, or households. To acquire the debt, the banks must have
excess reserves. After they have used their excess reserves, the money
supply is expanded, and the excess reserves become required reserves.
30/33
f.
Demand deposits - no change

Required reserves - no change
Excess reserves - no change
Unlike in the previous questions, the lending of excess reserves from one
bank to another does not in the aggregate increase or decrease the reserves
of the banking system.
g.

Loans between members of the non-bank general public do not affect banks'
reserves and thus do not affect their capacity to lend.
h.
Demand deposits - lower

Required reserves - lower
While the creation of new loans uses the banks' excess reserves and creates
new money, the retiring of loans from commercial banks reduces demand
deposits and restores excess reserves (i.e., increases excess reserves).
i.

j.

31/33
k.

Questions j and k illustrate two major monetary tools, the reserve

requirement and the discount rate. Notice that changing the discount rate
and the reserve requirements do not in themselves change demand deposits.
Their impact is on reserves, and the effect of this impact may lead to a
change in the supply of money.
l.

m.

n.
Demand deposits - increase

Required reserves - increase
Excess reserves - increase
During a period of inflation, a policy that contracts the money supply and the
capacity of banks to lend is desirable. The opposite situation would apply
during a recession. If there were a deficit during a period of recession, it is
desirable to increase the money supply and the capacity of the banks to lend.
Hence n is better than m.
32/33
POINTS:
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REF:
33/33

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Review for 2nd Quiz

Stocks and bonds are an alternative to money as a store of value.

An investment banker specializes in corporate loans.

Short sellers profit when security prices decline.

During a period of recession, the Fed sells securities.

is usually not a banker

is frequently a division of a brokerage firm

buy existing securities

are a source of funds for large firms

buy securities issued by small, emerging firms

register the securities they purchase with the SEC

In an efficient market, security prices

adjust rapidly to new information

adjust slowly to new information

poorly value a firm's future prospects

indicate that the firm is overvalued

stresses one type of investment

only buys stock

analyzes corporate securities

makes a market in securities

The New York Stock Exchange

transfers funds to businesses

forbids buying stock on margin

A pension plan that grants mortgage loans

is an example of a financial intermediary

cannot suffer losses

is called a savings and loan association

is not a financial intermediary

An investment bank is not a financial intermediary because

it does not transfer money from investors to firms

it does not create claims on itself

it does facilitate the transfer of funds

it creates claims on itself

When a commercial bank receives a cash deposit,

its required reserves increase

its required reserves decrease

its total reserves increase

its total reserves decrease

The members of the Board of Governors are

elected by the member banks

appointed by the Senate

appointed by the President of the United States

elected by the Federal Open Market Committee

The Federal Reserve may contract the money supply by

raising reserve requirements

lowering reserve requirements

If the federal government runs a surplus,

expenditures exceed taxes

receipts exceed disbursements

debt must be issued

the Federal Reserve buys bonds

a substitute for equity

a precaution against inflation

purchase the securities with their own funds

sell the securities at the offer price

let the price fall

the firm received $20 a share

the initial investors sustain a loss

demand exceeded supply

supply exceeded demand

often underwrites new issues of securities

may be a division within a brokerage firm

facilitates the sale of new securities