The Economics Of Money Banking And Financial Markets 6th Canadian Edition By Mishkin – Test Bank

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Economics of Money, Banking, and Financial Markets 6e (Mishkin)

Chapter 5 The Behaviour of Interest Rates

5.1 Determinants of Asset Demand

1) Pieces of property that serve as a store of value are called ________.

A) assets

B) units of account

C) liabilities

D) borrowings

Answer: A

Diff: 1 Type: MC

Skill: Recall

Objective: 5.1 Identify the factors that affect the demand for assets

2) Of the four factors that influence asset demand, which factor will cause the demand for all

assets to increases, everything else held constant?

A) Wealth

B) Expected returns

C) Risk

D) Liquidity

Answer: A

Diff: 1 Type: MC

Skill: Recall

Objective: 5.1 Identify the factors that affect the demand for assets

3) Everything else held constant, a decrease in wealth ________.

A) increases the demand for stocks

B) increases the demand for bonds

C) reduces the demand for silver

D) increases the demand for gold

Answer: C

Diff: 1 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

4) An increase in an asset’s expected return relative to that of an alternative asset, holding

everything else constant, ________ the quantity demanded of the asset.

A) increases

B) decreases

C) has no effect on

D) erases

Answer: A

Diff: 1 Type: MC

Skill: Recall

Objective: 5.1 Identify the factors that affect the demand for assets

1

Copyright © 2017 Pearson Canada, Inc.5) Everything else held constant, if the expected return on ABC stock rises from 5 to 10 percent

and the expected return on CBS stock is unchanged, then the expected return of holding CBS

stock ________ relative to ABC stock and the demand for CBS stock ________.

A) rises; rises

B) rises; falls

C) falls; rises

D) falls; falls

Answer: D

Diff: 2 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

6) Everything else held constant, if the expected return on bonds falls from 10 to 5 percent and

the expected return on GE stock rises from 7 to 8 percent, then the expected return of holding

GE stock ________ relative to bonds and the demand for GE stock ________.

A) rises; rises

B) rises; falls

C) falls; rises

D) falls; falls

Answer: A

Diff: 2 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

7) If housing prices are expected to increase, then, other things equal, the demand for houses

will ________ and that of Treasury bills will ________.

A) increase; increase

B) increase; decrease

C) decrease; decrease

D) decrease; increase

Answer: B

Diff: 1 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

8) If stock prices are expected to drop dramatically, then, other things equal, the demand for

stocks will ________ and that of Treasury bills will ________.

A) increase; increase

B) increase; decrease

C) decrease; decrease

D) decrease; increase

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

2

Copyright © 2017 Pearson Canada, Inc.9) Everything else held constant, if the expected return on RST stock declines from 12 to 9

percent and the expected return on XYZ stock declines from 8 to 7 percent, then the expected

return of holding RST stock ________ relative to XYZ stock and demand for XYZ stock

________.

A) rises; rises

B) rises; falls

C) falls; rises

D) falls; falls

Answer: C

Diff: 2 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

10) Everything else held constant, if the expected return on government bonds falls from 8 to 7

percent and the expected return on corporate bonds falls from 10 to 8 percent, then the expected

return of corporate bonds ________ relative to government bonds and the demand for corporate

bonds ________.

A) rises; rises

B) rises; falls

C) falls; rises

D) falls; falls

Answer: D

Diff: 2 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

11) An increase in the expected rate of inflation will ________ the expected return on bonds

relative to the that on ________ assets, everything else held constant.

A) reduce; financial

B) reduce; real

C) raise; financial

D) raise; real

Answer: B

Diff: 1 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

12) If fluctuations in interest rates become smaller, then, other things equal, the demand for

stocks ________ and the demand for long-term bonds ________.

A) increases; increases

B) increases; decreases

C) decreases; decreases

D) decreases; increases

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

3

Copyright © 2017 Pearson Canada, Inc.13) If the price of gold becomes less volatile, then, other things equal, the demand for stocks

will ________ and the demand for gold will ________.

A) increase; increase

B) increase; decrease

C) decrease; decrease

D) decrease; increase

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

14) If brokerage commissions on bond sales decrease, then, other things equal, the demand for

bonds will ________ and the demand for real estate will ________.

A) increase; increase

B) increase; decrease

C) decrease; decrease

D) decrease; increase

Answer: B

Diff: 1 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

15) If gold becomes acceptable as a medium of exchange, the demand for gold will ________

and the demand for bonds will ________, everything else held constant.

A) decrease; decrease

B) decrease; increase

C) increase; increase

D) increase; decrease

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

16) The demand for silver decreases, other things equal, when ________.

A) the gold market is expected to boom

B) the market for silver becomes more liquid

C) wealth grows rapidly

D) interest rates are expected to rise

Answer: A

Diff: 1 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

4

Copyright © 2017 Pearson Canada, Inc.17) You would be less willing to purchase bonds, other things equal, if ________.

A) you inherit $1 million from your Uncle Harry

B) you expect interest rates to fall

C) gold becomes more liquid

D) stock prices are expected to fall

Answer: C

Diff: 1 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

18) The demand for gold increases, other things equal, when ________.

A) the market for silver becomes more liquid

B) interest rates are expected to rise

C) interest rates are expected to fall

D) real estate prices are expected to increase

Answer: B

Diff: 1 Type: MC

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

19) Holding all other factors constant, the quantity demanded of an asset is ________.

A) positively related to wealth

B) negatively related to its expected return relative to alternative assets

C) positively related to the risk of its returns relative to alternative assets

D) negatively related to its liquidity relative to alternative assets

Answer: A

Diff: 1 Type: MC

Skill: Recall

Objective: 5.1 Identify the factors that affect the demand for assets

20) Everything else held constant, would an increase in volatility of stock prices have any

impact on the demand for rare coins? Why or why not?

Answer: Yes, it would cause the demand for rare coins to increase. The increased volatility of

stock prices means that there is relatively more risk in owning stock than there was previously

and so the demand for an alternative asset, rare coins, would increase.

Diff: 2 Type: ES

Skill: Applied

Objective: 5.1 Identify the factors that affect the demand for assets

5

Copyright © 2017 Pearson Canada, Inc.5.2 Supply and Demand in the Bond Market

1) The demand curve for bonds has the usual downward slope, indicating that at ________

prices of the bond, everything else equal, the ________ is higher.

A) higher; demand

B) higher; quantity demanded

C) lower; demand

D) lower; quantity demanded

Answer: D

Diff: 1 Type: MC

Skill: Recall

Objective: 5.2 Draw the demand and supply curves for the bond market, and identify the

equilibrium interest rate

2) The supply curve for bonds has the usual upward slope, indicating that as the price

________, ceteris paribus, the ________ increases.

A) falls; supply

B) falls; quantity supplied

C) rises; supply

D) rises; quantity supplied

Answer: D

Diff: 1 Type: MC

Skill: Recall

Objective: 5.2 Draw the demand and supply curves for the bond market, and identify the

equilibrium interest rate

3) In the bond market, the market equilibrium shows the market-clearing ________ and

market-clearing ________.

A) price; deposit

B) interest rate; deposit

C) price; interest rate

D) interest rate; premium

Answer: C

Diff: 1 Type: MC

Skill: Recall

Objective: 5.2 Draw the demand and supply curves for the bond market, and identify the

equilibrium interest rate

6

Copyright © 2017 Pearson Canada, Inc.4) When the price of a bond is above the equilibrium price, there is an excess ________ bonds

and price will ________.

A) demand for; rise

B) demand for; fall

C) supply of; fall

D) supply of; rise

Answer: C

Diff: 1 Type: MC

Skill: Recall

Objective: 5.2 Draw the demand and supply curves for the bond market, and identify the

equilibrium interest rate

5) When the price of a bond is ________ the equilibrium price, there is an excess demand for

bonds and price will ________.

A) above; rise

B) above; fall

C) below; fall

D) below; rise

Answer: D

Diff: 1 Type: MC

Skill: Recall

Objective: 5.2 Draw the demand and supply curves for the bond market, and identify the

equilibrium interest rate

6) When the interest rate on a bond is above the equilibrium interest rate, in the bond market

there is excess ________ and the interest rate will ________.

A) demand; rise

B) demand; fall

C) supply; fall

D) supply; rise

Answer: B

Diff: 1 Type: MC

Skill: Recall

Objective: 5.2 Draw the demand and supply curves for the bond market, and identify the

equilibrium interest rate

7) When the interest rate on a bond is ________ the equilibrium interest rate, in the bond

market there is excess ________ and the interest rate will ________.

A) above; demand; rise

B) above; demand; fall

C) below; supply; fall

D) above; supply; rise

Answer: B

Diff: 1 Type: MC

Skill: Recall

Objective: 5.2 Draw the demand and supply curves for the bond market, and identify the

equilibrium interest rate

7

Copyright © 2017 Pearson Canada, Inc.8) If the price of bonds is set ________ the equilibrium price, the quantity of bonds demanded

exceeds the quantity of bonds supplied, a condition called excess ________.

A) above; demand

B) above; supply

C) below; demand

D) below; supply

Answer: C

Diff: 1 Type: MC

Skill: Recall

Objective: 5.2 Draw the demand and supply curves for the bond market, and identify the

equilibrium interest rate

5.3 Changes in Equilibrium Interest Rates

1) A movement along the bond demand or supply curve occurs when ________ changes.

A) bond price

B) income

C) wealth

D) expected return

Answer: A

Diff: 1 Type: MC

Skill: Recall

market

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

2) When the price of a bond decreases, all else equal, the bond demand curve ________.

A) shifts right

B) shifts left

C) does not shift

D) inverts

Answer: C

Diff: 1 Type: MC

Skill: Recall

market

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

8

Copyright © 2017 Pearson Canada, Inc.3) During business cycle expansions when income and wealth are rising, the demand for bonds

________ and the demand curve shifts to the ________, everything else held constant.

A) falls; right

B) falls; left

C) rises; right

D) rises; left

Answer: C

Diff: 1 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

4) Everything else held constant, when households save less, wealth and the demand for bonds

________ and the bond demand curve shifts ________.

A) increase; right

B) increase; left

C) decrease; right

D) decrease; left

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

9

Copyright © 2017 Pearson Canada, Inc.5)

In the figure above, a factor that could cause the demand for bonds to decrease (shift to the left)

is ________.

A) an increase in the expected return on bonds relative to other assets

B) a decrease in the expected return on bonds relative to other assets

C) an increase in wealth

D) a reduction in the riskiness of bonds relative to other assets

Answer: B

Diff: 2 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

6) Everything else held constant, an increase in expected inflation, lowers the expected return

on ________ compared to ________ assets.

A) bonds; financial

B) bonds; real

C) physical; financial

D) physical; real

Answer: B

Diff: 1 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

10

Copyright © 2017 Pearson Canada, Inc.7) Everything else held constant, an increase in the riskiness of bonds relative to alternative

assets causes the demand for bonds to ________ and the demand curve to shift to the

________.

A) rise; right

B) rise; left

C) fall; right

D) fall; left

Answer: D

Diff: 1 Type: MC

Skill: Applied

market

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

8) Everything else held constant, when stock prices become less volatile, the demand curve for

bonds shifts to the ________ and the interest rate ________.

A) right; rises

B) right; falls

C) left; falls

D) left; rises

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

9) Everything else held constant, an increase in the liquidity of bonds results in a ________ in

demand for bonds and the demand curve shifts to the ________.

A) rise; right

B) rise; left

C) fall; right

D) fall; left

Answer: A

Diff: 1 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

11

Copyright © 2017 Pearson Canada, Inc.10) Everything else held constant, when bonds become less widely traded, and as a

consequence the market becomes less liquid, the demand curve for bonds shifts to the

________ and the interest rate ________.

A) right; rises

B) right; falls

C) left; falls

D) left; rises

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

11) During a recession, the supply of bonds ________ and the supply curve shifts to the

________, everything else held constant.

A) increases; left

B) increases; right

C) decreases; left

D) decreases; right

Answer: C

Diff: 1 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

12) In a business cycle expansion, the ________ of bonds increases and the ________ curve

shifts to the ________ as business investments are expected to be more profitable.

A) supply; supply; right

B) supply; supply; left

C) demand; demand; right

D) demand; demand; left

Answer: A

Diff: 2 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

12

Copyright © 2017 Pearson Canada, Inc.13) When the inflation rate is expected to increase, the ________ for bonds falls, while the

________ curve shifts to the right, everything else held constant.

A) demand; demand

B) demand; supply

C) supply; demand

D) supply; supply

Answer: B

Diff: 2 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

14) Everything else held constant, during a business cycle expansion, the supply of bonds shifts

to the ________ as businesses perceive more profitable investment opportunities, while the

demand for bonds shifts to the ________ as a result of the increase in wealth generated by the

economic expansion.

A) right; left

B) right; right

C) left; left

D) left; right

Answer: B

Diff: 2 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

15) When the economy slips into a recession, normally the demand for bonds ________, the

supply of bonds ________, and the interest rate ________, everything else held constant.

A) increases; increases; rises

B) decreases; decreases; falls

C) increases; decreases; falls

D) decreases; increases; rises

Answer: B

Diff: 2 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

13

Copyright © 2017 Pearson Canada, Inc.16) When the government has a surplus, as occurred in the late 1990s, the ________ curve of

bonds shifts to the ________, everything else held constant.

A) supply; right

B) supply; left

C) demand; right

D) demand; left

Answer: B

Diff: 1 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

17) In the figure above, a factor that could cause the supply of bonds to shift to the right is

________.

A) a decrease in government budget deficits

B) a decrease in expected inflation

C) a recession

D) a business cycle expansion

Answer: D

Diff: 2 Type: MC

Skill: Applied

market

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

14

Copyright © 2017 Pearson Canada, Inc.18) In the figure above, the price of bonds would fall from P1 to P2 if ________.

A) inflation is expected to increase in the future

B) interest rates are expected to fall in the future

C) the expected return on bonds relative to other assets is expected to increase in the future

D) the riskiness of bonds falls relative to other assets

Answer: A

Diff: 2 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

19) In the figure above, a factor that could cause the supply of bonds to increase (shift to the

right) is ________.

A) a decrease in government budget deficits

B) a decrease in expected inflation

C) expectations of more profitable investment opportunities

D) a business cycle recession

Answer: C

Diff: 2 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

15

Copyright © 2017 Pearson Canada, Inc.20) In the figure above, a factor that could cause the demand for bonds to shift to the right is

________.

A) an increase in the riskiness of bonds relative to other assets

B) an increase in the expected rate of inflation

C) expectations of lower interest rates in the future

D) a decrease in wealth

Answer: C

Diff: 2 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

21) In the figure above, the price of bonds would fall from P2 to P1 if ________.

A) there is a business cycle recession

B) there is a business cycle expansion

C) inflation is expected to increase in the future

D) inflation is expected to decrease in the future

Answer: B

Diff: 3 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

22) A decrease in the brokerage commissions in the housing market from 6 percent to 5 percent

of the sales price will shift the ________ curve for bonds to the ________, everything else held

constant.

A) demand; right

B) demand; left

C) supply; right

D) supply; left

Answer: B

Diff: 1 Type: MC

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

23) In the 1990s Japan had the lowest interest rates in the world due to a combination of

________.

A) inflation and recession

B) deflation and expansion

C) inflation and expansion

D) deflation and recession

Answer: D

Diff: 1 Type: MC

Skill: Applied

market

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

16

Copyright © 2017 Pearson Canada, Inc.24) What is the impact on interest rates when the Bank of Canada decreases the money supply

by selling bonds to the public?

Answer: Bond supply increases and the bond supply curve shifts to the right. The new

equilibrium bond price is lower and thus interest rates will increase.

Diff: 1 Type: ES

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

25) Use demand and supply analysis to explain why an expectation of interest rate hikes would

cause Government bond prices to fall.

Answer: The expected return on bonds would decrease relative to other assets resulting in a

decrease in the demand for bonds. The leftward shift of the bond demand curve results in a new

lower equilibrium price for bonds.

Diff: 1 Type: ES

Skill: Applied

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

market

17

Copyright © 2017 Pearson Canada, Inc.26) Demonstrate graphically and explain the effect in the bond market of a decrease in the

federal deficit. What is the effect on the interest rate and bond prices? How might capital

spending be affected by the deficit?

Answer: A graph of the supply and demand for bonds should show the reduced deficit shifting

the supply of bonds to the left. A correct graph will show a rise in bond prices and a fall in

interest rates, and this should be explained. Lower interest rates stimulate capital spending, as

explained in the discussion of the savings rate.

Diff: 3 Type: ES

Skill: Applied

market

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

18

Copyright © 2017 Pearson Canada, Inc.27) Demonstrate graphically the effect of an increase in the personal savings rate. Show and

explain the effect of increased savings on bond prices and interest rates. How would this

change affect capital spending?

Answer: A graph of bond supply and demand should show an increase in bond demand. The

increase in bond prices and the fall in the interest rates should be clearly shown and explained.

The increase in saving lowers interest rates, thus increasing capital spending.

Diff: 3 Type: ES

Skill: Applied

market

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

19

Copyright © 2017 Pearson Canada, Inc.28) Demonstrate graphically and explain how increased profitability of investments and

increased deficits affect bond prices and interest rates.

Answer: As increased deficits and increased profitability of investment both increase the

supply of bonds, one graph showing this shift and the resulting fall in prices and increase in

interest rates is appropriate.

Diff: 3 Type: ES

Skill: Applied

market

Objective: 5.3 List and describe the factors that affect the equilibrium interest rate in the bond

20

Copyright © 2017 Pearson Canada, Inc.5.4 Supply and Demand in the Market for Money: The Liquidity Preference Framework

1) In Keynes’s liquidity preference framework, individuals are assumed to hold their wealth in

two forms: ________.

A) real assets and financial assets

B) stocks and bonds

C) money and bonds

D) money and gold

Answer: C

Diff: 1 Type: MC

Skill: Recall

Objective: 5.4 Describe the connection between the bond market and the money market through

the liquidity preference framework

2) In Keynes’s liquidity preference framework, ________.

A) the demand for bonds must equal the supply of money

B) the demand for money must equal the supply of bonds

C) an excess demand of bonds implies an excess demand for money

D) an excess supply of bonds implies an excess demand for money

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: 5.4 Describe the connection between the bond market and the money market through

the liquidity preference framework

3) In Keynes’s liquidity preference framework, if there is excess demand for money, there is

________.

A) excess demand for bonds

B) equilibrium in the bond market

C) excess supply of bonds

D) too much money

Answer: C

Diff: 1 Type: MC

Skill: Applied

Objective: 5.4 Describe the connection between the bond market and the money market through

the liquidity preference framework

21

Copyright © 2017 Pearson Canada, Inc.4) The bond supply and demand framework is easier to use when analyzing the effects of

changes in ________, while the liquidity preference framework provides a simpler analysis of

the effects from changes in income, the price level, and the supply of ________.

A) expected inflation; bonds

B) expected inflation; money

C) government budget deficits; bonds

D) government budget deficits; money

Answer: B

Diff: 1 Type: MC

Skill: Recall

Objective: 5.4 Describe the connection between the bond market and the money market through

the liquidity preference framework

5) Keynes assumed that money has ________ rate of return.

A) a positive

B) a negative

C) a zero

D) an increasing

Answer: C

Diff: 1 Type: MC

Skill: Recall

Objective: 5.4 Describe the connection between the bond market and the money market through

the liquidity preference framework

6) In Keynes’s liquidity preference framework, as the expected return on bonds increases

(holding everything else unchanged), the expected return on money ________, causing the

demand for ________ to fall.

A) falls; bonds

B) falls; money

C) rises; bonds

D) rises; money

Answer: B

Diff: 1 Type: MC

Skill: Recall

Objective: 5.4 Describe the connection between the bond market and the money market through

the liquidity preference framework

7) The opportunity cost of holding money is ________.

A) the level of income

B) the price level

C) the interest rate

D) the discount rate

Answer: C

Diff: 1 Type: MC

Skill: Recall

Objective: 5.4 Describe the connection between the bond market and the money market through

the liquidity preference framework

22

Copyright © 2017 Pearson Canada, Inc.8) An increase in the interest rate ________.

A) increases the demand for money

B) increases the quantity of money demanded

C) decreases the demand for money

D) decreases the quantity of money demanded

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: 5.4 Describe the connection between the bond market and the money market through

the liquidity preference framework

9) If there is an excess supply of money ________.

A) individuals sell bonds, causing the interest rate to rise

B) individuals sell bonds, causing the interest rate to fall

C) individuals buy bonds, causing interest rates to fall

D) individuals buy bonds, causing interest rates to rise

Answer: C

Diff: 1 Type: MC

Skill: Applied

Objective: 5.4 Describe the connection between the bond market and the money market through

the liquidity preference framework

10) When the interest rate is above the equilibrium interest rate, there is an excess ________

money and the interest rate will ________.

A) demand for; rise

B) demand for; fall

C) supply of; fall

D) supply of; rise

Answer: C

Diff: 1 Type: MC

Skill: Applied

Objective: 5.4 Describe the connection between the bond market and the money market through

the liquidity preference framework

11) In the market for money, an interest rate below equilibrium results in an excess ________

money and the interest rate will ________.

A) demand for; rise

B) demand for; fall

C) supply of; fall

D) supply of; rise

Answer: A

Diff: 1 Type: MC

Skill: Applied

Objective: 5.4 Describe the connection between the bond market and the money market through

the liquidity preference framework

23

Copyright © 2017 Pearson Canada, Inc.5.5 Changes in Equilibrium Interest Rates in the Liquidity Preference Framework

1) In the Keynesian liquidity preference framework, an increase in the interest rate causes the

demand curve for money to ________, everything else held constant.

A) shift right

B) shift left

C) stay where it is

D) invert

Answer: C

Diff: 1 Type: MC

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

2) A lower level of income causes the demand for money to ________ and the interest rate to

________, everything else held constant.

A) decrease; decrease

B) decrease; increase

C) increase; decrease

D) increase; increase

Answer: A

Diff: 1 Type: MC

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

3) When real income ________, the demand curve for money shifts to the ________ and the

interest rate ________, everything else held constant.

A) falls; right; rises

B) rises; right; rises

C) falls; left; rises

D) rises; left; rises

Answer: B

Diff: 2 Type: MC

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

24

Copyright © 2017 Pearson Canada, Inc.4) A business cycle expansion increases income, causing money demand to ________ and

interest rates to ________, everything else held constant.

A) increase; increase

B) increase; decrease

C) decrease; decrease

D) decrease; increase

Answer: A

Diff: 2 Type: MC

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

5) In the Keynesian liquidity preference framework, a rise in the price level causes the demand

for money to ________ and the demand curve to shift to the ________, everything else held

constant.

A) increase; left

B) increase; right

C) decrease; left

D) decrease; right

Answer: B

Diff: 1 Type: MC

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

6) A rise in the price level causes the demand for money to ________ and the interest rate to

________, everything else held constant.

A) decrease; decrease

B) decrease; increase

C) increase; decrease

D) increase; increase

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

25

Copyright © 2017 Pearson Canada, Inc.7) A decline in the expected inflation rate causes the demand for money to ________ and the

demand curve to shift to the ________, everything else held constant.

A) decrease; right

B) decrease; left

C) increase; right

D) increase; left

Answer: B

Diff: 1 Type: MC

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

8) ________ in the money supply creates excess ________ money, causing interest rates to

________, everything else held constant.

A) A decrease; demand for; rise

B) An increase; demand for; fall

C) An increase; supply of; rise

D) A decrease; supply of; fall

Answer: A

Diff: 1 Type: MC

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

26

Copyright © 2017 Pearson Canada, Inc.9) In the figure above, one factor not responsible for the decline in the demand for money is

________.

A) a decline the price level

B) a decline in income

C) an increase in income

D) a decline in the expected inflation rate

Answer: C

Diff: 2 Type: MC

Skill: Applied

interest rate

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

10) In the figure above, the decrease in the interest rate from i1 to i2 can be explained by

________.

A) a decrease in money growth

B) a decline in the expected price level

C) an increase in income

D) an increase in the expected price level

Answer: B

Diff: 2 Type: MC

Skill: Applied

interest rate

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

27

Copyright © 2017 Pearson Canada, Inc.11) In the figure above, the factor responsible for the decline in the interest rate is ________.

A) a decline the price level

B) a decline in income

C) an increase in the money supply

D) a decline in the expected inflation rate

Answer: C

Diff: 1 Type: MC

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

12) In the figure above, the decrease in the interest rate from i1 to i2 can be explained by

________.

A) a decrease in money growth

B) an increase in money growth

C) a decline in the expected price level

D) an increase in income

Answer: B

Diff: 2 Type: MC

Skill: Applied

interest rate

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

28

Copyright © 2017 Pearson Canada, Inc.13) Milton Friedman called the response of lower interest rates resulting from an increase in the

money supply the ________ effect.

A) liquidity

B) price level

C) expected-inflation

D) income

Answer: A

Diff: 1 Type: MC

Skill: Recall

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

14) Using the liquidity preference framework, what will happen to interest rates if the Bank of

Canada increases the money supply?

Answer: The Bank of Canada’s actions shift the money supply curve to the right. The new

equilibrium interest rate will be lower than it was previously.

Diff: 1 Type: ES

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

15) Using the liquidity preference framework, show what happens to interest rates during a

business cycle recession.

Answer: During a business cycle recession, income will fall. This causes the money demand

curve to shift to the left. The resulting equilibrium will be at a lower interest rate.

Diff: 1 Type: ES

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

29

Copyright © 2017 Pearson Canada, Inc.16) In the liquidity preference framework, demonstrate graphically the effect of a decrease in

the money supply. Indicate on the graph the excess demand or excess supply of money. Explain

the process of adjustment that results in a change in the equilibrium interest rate, and the

direction of the change in rates.

Answer: The graph should show the money supply curve shifting to the left. At the original

rate, excess supply is the difference between the demand curve and new supply curve at the

original equilibrium interest rate. To adjust, individuals sell bonds, driving bond prices down

and interest rates up until the new equilibrium rate is attained.

Diff: 3 Type: ES

Skill: Recall

interest rate

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

17) Economists recognize that interest rates are typically procyclical, meaning that interest rates

increase during economic expansions and decline during recessions. Real income and generally

inflation rise and fall with the economy. Using the liquidity preference model of interest rates,

give three reasons why interest rates are procyclical.

Answer: The answer should explain that the income, price-level, and expected inflation effects

would all increase interest rates during an expansion and decrease them in a recession.

Diff: 3 Type: ES

Skill: Applied

Objective: 5.5 List and describe the factors that affect the money market and the equilibrium

interest rate

30

Copyright © 2017 Pearson Canada, Inc.5.6 Does a Higher Rate of Growth of the Money Supply Lower Interest Rates?

1) Of the four effects on interest rates from an increase in the money supply, the one that works

in the opposite direction of the other three is the ________.

A) liquidity effect

B) income effect

C) price level effect

D) expected inflation effect

Answer: A

Diff: 1 Type: MC

Skill: Recall

Objective: 5.6 Identify and illustrate the effects on the interest rate of changes in money growth

over time

2) If the liquidity effect is smaller than the other effects, and the adjustment to expected

inflation is immediate, then the ________.

A) interest rate will fall

B) interest rate will rise

C) interest rate will fall immediately below the initial level when the money supply grows

D) interest rate will rise immediately above the initial level when the money supply grows

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: 5.6 Identify and illustrate the effects on the interest rate of changes in money growth

over time

31

Copyright © 2017 Pearson Canada, Inc.3) In the figure above, illustrates the effect of an increased rate of money supply growth at time

period 0. From the figure, one can conclude that the ________.

A) liquidity effect is smaller than the expected inflation effect and interest rates adjust quickly

to changes in expected inflation

B) liquidity effect is larger than the expected inflation effect and interest rates adjust quickly to

changes in expected inflation

C) liquidity effect is larger than the expected inflation effect and interest rates adjust slowly to

changes in expected inflation

D) liquidity effect is smaller than the expected inflation effect and interest rates adjust slowly to

changes in expected inflation

Answer: A

Diff: 3 Type: MC

Skill: Applied

Objective: 5.6 Identify and illustrate the effects on the interest rate of changes in money growth

over time

32

Copyright © 2017 Pearson Canada, Inc.4) In the figure above, illustrates the effect of an increased rate of money supply growth at time

period 0. From the figure, one can conclude that the ________.

A) Fisher effect is dominated by the liquidity effect and interest rates adjust slowly to changes

in expected inflation

B) liquidity effect is dominated by the Fisher effect and interest rates adjust slowly to changes

in expected inflation

C) liquidity effect is dominated by the Fisher effect and interest rates adjust quickly to changes

in expected inflation

D) Fisher effect is smaller than the expected inflation effect and interest rates adjust quickly to

changes in expected inflation

Answer: C

Diff: 3 Type: MC

Skill: Applied

Objective: 5.6 Identify and illustrate the effects on the interest rate of changes in money growth

over time

33

Copyright © 2017 Pearson Canada, Inc.5) The figure above illustrates the effect of an increased rate of money supply growth at time

period T0. From the figure, one can conclude that the ________.

A) liquidity effect is smaller than the expected inflation effect and interest rates adjust quickly

to changes in expected inflation

B) liquidity effect is larger than the expected inflation effect and interest rates adjust quickly to

changes in expected inflation

C) liquidity effect is larger than the expected inflation effect and interest rates adjust slowly to

changes in expected inflation

D) liquidity effect is smaller than the expected inflation effect and interest rates adjust slowly to

changes in expected inflation

Answer: C

Diff: 3 Type: MC

Skill: Applied

Objective: 5.6 Identify and illustrate the effects on the interest rate of changes in money growth

over time

34

Copyright © 2017 Pearson Canada, Inc.6) The figure above illustrates the effect of an increased rate of money supply growth at time

period T0. From the figure, one can conclude that the ________.

A) Fisher effect is dominated by the liquidity effect and interest rates adjust slowly to changes

in expected inflation

B) liquidity effect is dominated by the Fisher effect and interest rates adjust slowly to changes

in expected inflation

C) liquidity effect is dominated by the Fisher effect and interest rates adjust quickly to changes

in expected inflation

D) Fisher effect is smaller than the expected inflation effect and interest rates adjust quickly to

changes in expected inflation

Answer: A

Diff: 3 Type: MC

Skill: Applied

Objective: 5.6 Identify and illustrate the effects on the interest rate of changes in money growth

over time

35

Copyright © 2017 Pearson Canada, Inc.7) The figure above illustrates the effect of an increased rate of money supply growth at time

period T0. From the figure, one can conclude that the ________.

A) liquidity effect is smaller than the expected inflation effect and interest rates adjust quickly

to changes in expected inflation

B) liquidity effect is larger than the expected inflation effect and interest rates adjust quickly to

changes in expected inflation

C) liquidity effect is larger than the expected inflation effect and interest rates adjust slowly to

changes in expected inflation

D) liquidity effect is smaller than the expected inflation effect and interest rates adjust slowly to

changes in expected inflation

Answer: D

Diff: 3 Type: MC

Skill: Applied

Objective: 5.6 Identify and illustrate the effects on the interest rate of changes in money growth

over time

36

Copyright © 2017 Pearson Canada, Inc.8) The figure above illustrates the effect of an increased rate of money supply growth at time

period T0. From the figure, one can conclude that the ________.

A) Fisher effect is dominated by the liquidity effect and interest rates adjust slowly to changes

in expected inflation

B) liquidity effect is dominated by the Fisher effect and interest rates adjust slowly to changes

in expected inflation

C) liquidity effect is dominated by the Fisher effect and interest rates adjust quickly to changes

in expected inflation

D) Fisher effect is smaller than the expected inflation effect and interest rates adjust quickly to

changes in expected inflation

Answer: A

Diff: 3 Type: MC

Skill: Applied

Objective: 5.6 Identify and illustrate the effects on the interest rate of changes in money growth

over time

9) Interest rates increased continuously during the 1970s. The most likely explanation is

________.

A) banking failures that reduced the money supply

B) a rise in the level of income

C) the repeated bouts of recession and expansion

D) increasing expected rates of inflation

Answer: D

Diff: 2 Type: MC

Skill: Applied

Objective: 5.6 Identify and illustrate the effects on the interest rate of changes in money growth

over time

37

Copyright © 2017 Pearson Canada, Inc.5.7 Web Appendix 1: Models of Asset Pricing

1) The riskiness of an asset is measured by ________.

A) the magnitude of its return

B) the absolute value of any change in the asset’s price

C) the standard deviation of its return

D) risk is impossible to measure

Answer: C

Diff: 1 Type: MC

Skill: Recall

Objective: Appendix: Models of Asset Pricing

2) Holding many risky assets and thus reducing the overall risk an investor faces is called

________.

A) diversification

B) foolishness

C) risk acceptance

D) capitalization

Answer: A

Diff: 1 Type: MC

Skill: Recall

Objective: Appendix: Models of Asset Pricing

3) The ________ the returns on two securities move together, the ________ benefit there is

from diversification.

A) less; more

B) less; less

C) more; more

D) more; greater

Answer: A

Diff: 1 Type: MC

Skill: Recall

Objective: Appendix: Models of Asset Pricing

4) A higher ________ means that an asset’s return is more sensitive to changes in the value of

the market portfolio.

A) alpha

B) beta

C) CAPM

D) APT

Answer: B

Diff: 1 Type: MC

Skill: Recall

Objective: Appendix: Models of Asset Pricing

38

Copyright © 2017 Pearson Canada, Inc.5) The riskiness of an asset that is unique to the particular asset is ________.

A) systematic risk

B) portfolio risk

C) investment risk

D) nonsystematic risk

Answer: D

Diff: 1 Type: MC

Skill: Recall

Objective: Appendix: Models of Asset Pricing

6) The risk of a well-diversified portfolio depends only on the ________ risk of the assets in the

portfolio.

A) systematic

B) nonsystematic

C) portfolio

D) investment

Answer: A

Diff: 1 Type: MC

Skill: Recall

Objective: Appendix: Models of Asset Pricing

7) Both the CAPM and APT suggest that an asset should be priced so that it has a higher

expected return ________.

A) when it has a greater systematic risk

B) when it has a greater risk in isolation

C) when it has a lower systematic risk

D) when it has a lower systematic risk and a lower risk in isolation

Answer: A

Diff: 1 Type: MC

Skill: Applied

Objective: Appendix: Models of Asset Pricing

8) In contrast to the CAPM, the APT assumes that there can be several sources of ________

that cannot be eliminated through diversification.

A) nonsystematic risk

B) systematic risk

C) credit risk

D) arbitrary risk

Answer: B

Diff: 1 Type: MC

Skill: Recall

Objective: Appendix: Models of Asset Pricing

39

Copyright © 2017 Pearson Canada, Inc.9) Both the CAPM and APT suggest that an asset should be priced so that it has a higher

expected return ________.

A) when it has a greater systematic risk

B) when it has a greater risk in isolation

C) when it has a lower systematic risk

D) when it has a lower systematic risk and a lower risk in isolation

Answer: A

Diff: 1 Type: MC

Skill: Applied

Objective: Appendix: Models of Asset Pricing

10) A limitation of the CAPM is the assumption that ________.

A) there are multiple sources of systematic risk

B) there is a single source of systematic risk

C) investors have different assessments of expected returns and standard deviations

D) they cannot borrow freely at the risk-free rate

Answer: B

Diff: 2 Type: MC

Skill: Recall

Objective: Appendix: Models of Asset Pricing

5.8 of Gold

Web Appendix 2: Applying the Asset Market Approach to a Commodity Market: The Case

1) When stock prices become more volatile, the ________ curve for gold shifts right and gold

prices ________, everything else held constant.

A) demand; increase

B) demand; decrease

C) supply; increase

D) supply; decrease

Answer: A

Diff: 2 Type: MC

Skill: Applied

Objective: Appendix: Applying the Asset Market Approach to a Commodity Market: The Case

of Gold

2) A return to the gold standard, that is, using gold for money will ________ the ________ for

gold, ________ its price, everything else held constant.

A) increase; demand; increasing

B) decrease; demand; decreasing

C) increase; supply; increasing

D) decrease; supply; increasing

Answer: A

Diff: 1 Type: MC

Skill: Applied

Objective: Appendix: Applying the Asset Market Approach to a Commodity Market: The Case

of Gold

40

Copyright © 2017 Pearson Canada, Inc.3) When gold prices become more volatile, the ________ curve for gold shifts to the ________;

________ the price of gold.

A) supply; right; increasing

B) supply; left; increasing

C) demand; right; decreasing

D) demand; left; decreasing

Answer: D

Diff: 1 Type: MC

Skill: Applied

Objective: Appendix: Applying the Asset Market Approach to a Commodity Market: The Case

of Gold

4) Discovery of new gold in Alaska will ________ the ________ of gold, ________ its price,

everything else held constant.

A) increase; demand; increasing

B) decrease; demand; decreasing

C) decrease; supply; increasing

D) increase; supply; decreasing

Answer: D

Diff: 2 Type: MC

Skill: Applied

Objective: Appendix: Applying the Asset Market Approach to a Commodity Market: The Case

of Gold

5) An increase in the expected inflation rate will ________ the ________ for gold, ________

its price, everything else held constant.

A) increase; demand; increasing

B) decrease; demand; decreasing

C) increase; supply; increasing

D) decrease; supply; increasing

Answer: A

Diff: 1 Type: MC

Skill: Applied

Objective: Appendix: Applying the Asset Market Approach to a Commodity Market: The Case

of Gold

6) The price of gold should be ________ to the expected inflation rate.

A) positively related

B) negatively related

C) inversely related

D) unrelated

Answer: A

Diff: 1 Type: MC

Skill: Applied

Objective: Appendix: Applying the Asset Market Approach to a Commodity Market: The Case

of Gold

41

Copyright © 2017 Pearson Canada, Inc.