requirement is 20 percent, how much additional money can the banking system create?
A) $20 million
B) $50 million
C) $100 million
D) $200 million
10) Which of the following is not a function of the Federal Reserve?
A) to control the money supply
B) to make loans to depository institutions
C) to insure the deposits of customers
D) to provide a check-collection service
11) If the Federal Reserve wants to reduce the equilibrium interest rate, it should
A) increase the reserve requirement in order to expand the money supply.
B) sell securities on the open market in order to expand the money supply.
C) buy government securities in order to expand the money supply.
D) increase the discount rate in order to expand the money supply.
12) When the Federal Reserve buys government securities in the open market, the lending ability
of banks
A) tends to decline; the money supply shrinks, and the interest rate tends to fall.
B) tends to decline; the money supply expands, and the interest rate tends to rise.
C) increases; the money supply expands, and the interest rate tends to fall.
D) tends to decline; the money supply shrinks, and the interest rate tends to rise.
13) Let’s assume that all banks in the system are “loaned up” (have no excess reserves) and that
they all face a reserve requirement of 20 percent. If the Federal Reserve buys a $100,000 security
from Bank A, how much new money can the banking system create? (Hint: Remember that the
Fed will pay for the security by increasing the reserve account of Bank A.)
A) $100,000
B) $1,000,000
C) $400,000
D) $500,000
14) If the Federal Reserve wanted to reduce inflationary pressures, what would be the proper
combination of policies?
A) increase the reserve requirement, decrease the discount rate, and sell securities
B) increase the reserve requirement, increase the discount rate, and sell securities
C) increase the requirement, increase the discount rate, and buy securities
D) decrease the reserve requirement, decrease the discount rate, and buy securities
15) To combat unemployment, the Federal Reserve should
A) reduce the money supply by selling government securities.
B) reduce the money supply by lowering the reserve requirement.
C) increase the money supply by raising the discount rate.
D) increase the money supply by buying government securities.
1) The three functions of money are medium of exchange, standard of value, and
A) store of utility.
B) store of value.
C) mode of saving.
D) store of saving.
2) The role money performs in allowing exchanges to be conducted without barter is called the
A) medium of exchange function.
B) standard of value function.
C) store of value function.
D) trade facilitating function.
3) Which of the following is not part of the M-1 money supply?
A) currency
B) demand deposits
C) balances in money-market mutual funds
D) NOW accounts
4) The assets of a bank include all of the following EXCEPT
A) reserves.
B) securities.
C) checkable deposits.
D) loans.
5) Which of the following is a true statement about the owners’ equity of a bank?
A) It is equal to the bank’s assets minus it’s liabilities.
B) It is also known as bank capital.
C) It is also known as equity capital.
D) All of the above are true.
6) The legal reserve requirement is stated as a percentage of a bank’s
A) total assets.
B) checkable deposits.
C) loans.
D) securities.
Use the following hypothetical balance sheet in answering the following question. All figures are
in millions.
7) Based on the table above, assuming a reserve requirement of 20 percent, how much additional
money can this bank create?
A) $100 million
B) $26 million
C) $20 million
D) $15 million
8) Based on the table above, if the reserve requirement was 10 percent, how much additional
money could this bank create?
A) $250 million
B) $45 million
C) $25 million
D) $20 million
9) Banks “create” money when
A) they make a loan and the borrower receives a checkable account balance.
B) the borrower pays interest on his or her loan.
C) they make a loan and the borrower receives new currency printed by the bank.
D) None of the above
Use the following hypothetical balance sheet in answering the following question(s). All figures
are in millions.
10) Based on the table above, assuming a reserve requirement of 30 percent, how much
additional money can this bank loan out?
A) $60 million
B) $42 million
C) $30 billion
D) $18 billion
11) Based on the table above, if this bank loans out the maximum it can, when those loans are
used to make purchases, this bank will
A) lose reserves to other banks.
B) lose deposits to other banks.
C) have no excess reserves.
D) All of the above
12) Based on the table above and assuming a reserve requirement of 30 percent, if the balance
sheet represented was for a banking system instead of a single bank, then the banking system
could expand the money supply by a maximum of approximately
A) $200 million.
B) $140 million.
C) $100 million.
D) None of the above.
13) Based on the table above, in this example, the deposit multiplier is equal to
A) 5.
B) 4.
C) 3.33.
D) 2.5.
14) The reason that a banking system can create more money than an individual bank is because
A) individual banks are subject to the reserve requirement while the banking system is not.
B) individual banks are motivated by the pursuit of profit while the banking system is not.
C) individual banks can lose reserves while the banking system cannot.
D) the reserve requirement for the banking system is lower than the reserve requirement for
individual banks.
15) If banks hold checkable deposits of $200 million and reserves of $50 million, how much
additional money can the banking system create? Assume a reserve requirement of 20 percent.
A) $20 million
B) $50 million
C) $100 million
D) $200 million
16) The original purpose of the Fed was to
A) print and distribute paper currency.
B) insure the deposits of banks.
C) act as a lender of last resort.
D) control the money supply.
17) Today, the primary purpose of the Fed is to
A) print and distribute paper currency.
B) regulate the money supply in order to prevent inflation or unemployment.
C) act as a lender of last resort.
D) insure the deposits of banks.
18) Which of the following is not a function of the Federal Reserve?
A) controlling the money supply
B) insuring the deposits of financial institutions
C) supplying the economy with coins and paper currency
D) providing a system for collecting and clearing checks
19) Which of the following is the primary monetary policy tool of the Fed?
A) open market operations
B) changing the discount rate
C) changing the reserve requirement
D) adjusting tax rates
20) If the Fed is experiencing unemployment, activists would recommend
A) increasing the discount rate, reducing the reserve requirement, and/or buying government
securities in the open market.
B) decreasing the discount rate, reducing the reserve requirement, and/or buying government
securities in the open market.
C) increasing the discount rate, raising the reserve requirement, and/or selling government
securities in the open market.
D) increasing the discount rate, lowering the reserve requirement and/or buying government
securities in the open market.
21) The federal funds rate is the rate
A) the Fed charges on loans to depository institutions.
B) that banks charge their best customers.
C) that banks pay to borrow reserves from other banks.
D) the Fed pays banks for the reserves on deposit with the Fed.
22) Which of the following depicts the process by which a change in the money supply alters
output, employment, and prices?
A) An increase in the money supply lowers aggregate demand. The lower level of aggregate
demand drives down the interest rate. The lower interest rate leads to an increase in output,
employment, and prices.
B) A decrease in the money supply raises the interest rate. The higher interest rate reduces
aggregate demand. The lower level of aggregate demand leads to lower output, employment, and
prices.
C) An increase in the interest rate lowers the money supply. The smaller money supply reduces
aggregate demand and leads to a reduction in output, employment, and prices.
D) An increase in the money supply leads to a higher interest rate. The higher interest rate
reduces the level of aggregate demand. The lower level of aggregate demand causes output and
employment to fall and also reduces the price level.
23) Which of the following does discretionary monetary policy have in common with
discretionary fiscal policy?
A) Both policies attempt to alter the level of aggregate demand.
B) Both policies are subject to time lags.
C) Both policies affect interest rates.
D) All of the above.
24) Which of the following is not true?
A) The discount rate is regarded as a weak policy tool.
B) Monetary policy is designed to deliberately alter the interest rate.
C) Monetary policy is generally more effective in combating unemployment than inflation.
D) Discretionary monetary policy does not have an implementation lag.
25) When the Federal Reserve sells government securities on the open market, the lending ability
of banks
A) tends to decline; the money supply shrinks, and the interest rate tends to decline.
B) tends to decline; the money supply expands, and the interest rate tends to rise.
C) increases; the money supply expands, and the interest rate tends to fall.
D) tends to decline; the money supply shrinks, and the interest rate tends to rise.
26) Monetary policy may sometimes be ineffective in combating unemployment because
A) when the Fed provides banks with additional reserves, banks may not choose to expand loans.
B) businesses may be unwilling to take on new debt in the depressed environment.
C) pessimistic consumers may be unwilling to borrow even if banks are willing to lend.
D) All of the above are true.
1) Because money functions as a “medium of exchange,” it is possible to accumulate wealth to
be used at some future date.
2) If money did not perform the “store of value” function, a vegetable farmer who wanted to buy
a suit would have to locate a tailor in need of fresh produce.
3) In the absence of a “standard of value,” the communication and comparison of prices would be
very difficult.
4) A demand deposit account is a checking account that does not pay interest.
5) NOW accounts are checking accounts that pay interest.
6) Passbook savings accounts are included in the M-1 definition of the money supply.
7) Demand deposits, NOW accounts, and credit-union share draft accounts are all examples of
checkable deposits.
8) About 70 percent of the M-1 money supply is in the form of currency.
9) The M-1 money supply consists of currency in the hands of the public, checkable deposits,
and money-market mutual fund balances.
10) Most of the M-1 money supply is in the form of NOW accounts.
11) The M-1 money supply is larger than the M-2 money supply.
12) Checkable and savings deposits are recorded as assets on the balance sheets of banks.
13) The reserve requirement is stated as a percentage of a banks checkable deposits.
14) Loans are recorded as assets on the balance sheet of a bank.
15) If a bank has checkable deposits of $100 million, passbook savings deposits of $50 million,
total assets of $200 million, and a reserve requirement of 15 percent, it is required to maintain
reserves of $30 million.
16) Suppose a bank has checkable deposits of $200 million, total assets of $400 million, and total
reserves of $100 million. If the reserve requirement is 20 percent, this bank has excess reserves
of $60 million.
17) If the Tightwad bank has total assets of $250 million, total reserves of $100 million, and
required reserves of $30 million, it can expand loans by not more than $30 million.
18) Banks create money when they make loans.
19) Banks are able to create an amount of money equal to the amount of their total or legal
reserves.
20) If the Wellrun Bank has total reserves of $200 million and required reserves of $150 million,
it can expand loans and the money supply by an additional $50 million.
21) Banks create money by running government-authorized printing presses maintained at each
bank.
22) Suppose the Tightwad Bank is initially loaned up (it cannot expand loans any further). If
$10,000 in cash is deposited into a checking account and the reserve requirement is 20 percent,
the bank will be able to expand loans by a maximum of $2,000.
23) Banks must limit their loans to the amount of their excess reserves because when a loan is
used, the bank stands to lose deposits and reserves.
24) The deposit multiplier tells us the precise amount by which an individual bank can expand
the money supply.
25) Assume the reserve requirement is 25 percent and that all banks are loaned up. If an
additional $10,000 in currency is deposited in a checking account at some bank, the banking
system will be able to expand loans and the money supply by $30,000.
26) Suppose the reserve requirement is 25 percent and that all banks are loaned up. If an
additional $10,000 in currency is deposited in a checking account at some bank, the banking
system will be able to expand loans and the money supply by $40,000.
27) If the reserve requirement is 0.25, the deposit multiplier would be 4.
28) If the deposit multiplier is 5, the banking system can expand the money supply by five times
the initial amount of any change in excess reserves.
29) The deposit multiplier tells us the minimum amount of new money that will be created from
an initial change in excess reserves; the maximum can be substantially larger.
30) The Federal Reserve was established in 1952.
31) The policymaking body of the Federal Reserve is called the “Open-Market Committee.”
32) One of the functions of the Federal Reserve is to insure the deposits at financial institutions.
33) The primary function of the Federal Reserve is the control of the U.S. money supply.
34) The Federal Reserve controls the money supply primarily through its open-market
operations.
35) Open-market operations are the buying and selling of government securities by the Federal
Reserve.
36) One method of expanding the money supply would be for the Fed to sell government
securities in the open market.
37) When the Fed buys government securities in the open market, its actions tend to expand the
money supply.
38) Fed purchases of government securities tend to expand the money supply because it pays for
these securities by providing banks with reserves they can use to expand loans.
39) Lowering the reserve requirement tends to convert excess reserves into required reserves.
40) When the reserve requirement is increased, the lending ability of banks tends to contract.
41) Raising the reserve requirement would tend to expand the money supply.
42) The discount rate is the interest rate that banks pay to borrow reserves from other banks.
43) The discount rate is a very powerful policy tool because banks prefer borrowing from the
Fed rather than borrowing from other sources.
44) Increasing the discount rate will tend to expand the money supply.
45) The federal funds rate is the rate banks pay to borrow reserves from other banks.
46) Banks prefer to borrow reserves from the Fed rather than from other banks.
47) If the Fed wants to combat unemployment, it should increase the discount rate, increase the
reserve requirement, and/or sell government securities.
48) To combat inflation the Fed should increase the discount rate, increase the reserve
requirement, and/or buy government securities.
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49) Monetary policy influences the level of economic activity by altering interest rates.
50) If the Fed expands the money supply, interest rates will tend to be pushed up, depressing
investment spending and slowing the economy.
51) According to activists, if the Fed wants to stimulate the economy, it needs to lower interest
rates.
52) If the Fed buys government securities, it will tend to increase the money supply and lower
interest rates.
53) Activists argue that inflation can be attacked by reducing the money supply and driving up
interest rates.
54) If the Fed decided to increase the reserve requirement, this would tend to increase the money
supply and lower interest rates.
55) By buying government securities in the open market, the Fed can lower interest rates and
stimulate spending.
56) Unlike fiscal policy, monetary policy is not subject to time lags.
57) Monetary policy tends to be less effective in combating unemployment than inflation.
1) Suppose that you could walk into any store in the nation and purchase products by simply
signing an IOU. Would you be creating money? Why or why not?
2) Explain the concept of the deposit multiplier and why it is equal to the reciprocal of the
reserve requirement.
3) The deposit multiplier tells us the maximum amount of money that can be created by the
banking system from any initial increase in the amount of excess reserves. Discuss the reasons
why the actual amount of new money created may be less than the maximum.
4) Describe the monetary policy actions that a Keynesian would recommend for combating
unemployment, and explain in step-by-step fashion how these actions would help to restore full
employment.
5) Keynesians believe that monetary policy works through its impact on interest rates. Explain in
detail how monetary policy affects interest rates and how changes in interest rates affect the
economy.
6) Why is discretionary monetary policy judged more effective in combating inflation than
unemployment?
7) Are credit cards and debit cards money? Why or why not?
8) Discuss the lags associated with discretionary monetary policy and explain why they might
make the Fed’s policies ineffective or counter productive.