answer the question (11 multiple choice)

Economics 321 Problem Set #4

Rules: Please post your answers on Canvas.

I. The speculative demand for money 1. What is the speculative demand motive for money balances: (a) a desire to hold money in an investmentportfolioalongwithstocksandbonds; (b)adesire to stay liquid for transaction purposes; (c) a desire to speculate against foreign currencies; (d) a desire to hold money to avoid transaction costs; 2. What is the nominal return on holding money balances: (a) 0; (b) the rate of GDP growth; (c) the federal funds rate; (d) the Treasury bill rate; 3. What is the real return on holding money balances (a) 0; (b) the indexed Treasury bill rate; (c) -5; (d) minus the in�ation rate;

II. Open market operations It was reported in the Wall Street Journal that Federal Reserve Chairman Jerome Powell wants to tighten the basic money supply. You sit on the open market trading desk in New York. 4. Whatdoyoudoto implementBernanke�sdirective: (a)printmoney; (b)changeregulation Q; (c) sell Treasury bonds; (d) buy Treasury bonds; 5. What happens to bond prices: (a) unchanged; (b) increase; (c) decrease; (d) bond prices are set by the Treasury; 6. What happens to interest rates: (a) unchanged; (b) increase; (c) decrease; (d) interest rates will bump up against regulatory ceilings; 7. What is the impact of this open market operation on the wealth of current bond holders: (a) unchanged; (b) increase; (c) decrease; (d) their wealth will be guaranteed because bonds always pay back their face value;

II. New Federal Reserve procedures With interest rates at or near zero, the Federal Reserve has been purchasing assets in a process known as quantitative easing. 8. What assets has the Fed been buying: (a) Treasury bonds; (b) mortgage backed securities; (c) commercial paper; (d) all of the previous; There are many �nancial institutions that are not members of the Federal Reserve, but they do act as �nancial intermediaries. They are often called the shadow banking system, and the Fed provided support to many of these institutions. 9. Which company in this group su¤ered the greatest losses during the �nancial crisis of 2007-9: (a) Citibank; (b) Long Term Capital Management; (c) AIG; (d) Goldman Sachs;

III. Bond pricing and the expectations hypothesis 10. A recent survey revealed that the market expects the 1-year interest rate to be 5% one year from now, down from it�s current level of 6%: If these expectations are correct, what should be the current yield on a 2-year bond: (a) 5.5%; (b) 5%; (c) 6%; (d) 7%; 11. What is the yield to maturity on a 1-year bond with a 115

8 coupon that is currently

selling at 10921 32 : (a) 11.625%; (b) 21/32; (c) 1.80%; (d) 109%;