File: Chapter 28 The Financial Sector and the Economy
True/False
[QUESTION]
1. The financial sector is very important to the economy.
2. The financial sector channels saving back into the spending stream.
3. Cash is an example of a liquid financial asset.
4. Money doesn’t have to have any inherent value to function as a medium of exchange.
5. As long as money serves as a medium of exchange, it also serves as a store of wealth.
6. When a bank creates loans, it also creates money.
7. The Fed is the only formal and legal organization that can create money.
8. If the reserve ratio is 0.10, the money multiplier is equal to 5.
9. In practice, the Fed focuses on changing reserves to change the total money supply.
10. In the real world, policy makers apply the money multiplier to reserves to predict the amount
of money in the economy.
11. The financial sector makes the real sector in a modern economy possible.
12. Holding money for the speculative motive is holding cash for unexpected events.
13. A high-risk premium makes default more likely.
Multiple Choice
[QUESTION]
14. The risk that all loans will default at the same time is called:
A. systemic risk.
B. diversified risk.
C. liquid risk.
D. security risk.
15. Money can be many things, but it is not:
A. a financial liability.
B. a financial asset.
C. liquid.
D. illiquid.
16. A financial asset is liquid:
A. if it can be carried easily from one place to another.
B. if it can be readily exchanged for another asset or good.
C. only if it takes the form of cash.
D. if it is held by the public and earning interest.
17. The Federal Reserve Bank is the U.S. central bank:
A. whose liabilities serve as cash in the United States.
B. whose assets serve as cash in the United States.
C. who holds, in reserve, all financial assets of banks.
D. who holds, in reserve, all financial liabilities of banks.
18. The U.S. central bank is a financial institution that:
A. has the sole right to accept deposits and make loans.
B. has the sole right to issue currency.
C. sets borrowing and lending in a country.
D. determines what assets will back a currency.
19. The U.S. dollar bills you sometimes have in your wallet are:
A. liabilities of the Federal Reserve.
B. assets of the Federal Reserve.
C. liabilities of the Federal Reserve until it is spent.
D. your liabilities if you hold that note.
20. What allows a Federal Reserve note to function as money?
A. Regulation
B. Government
C. Social convention
D. Banks
21. The financial liability that makes the real economy function smoothly for its liquidity and its
acceptability is called:
A. bonds.
B. money.
C. mortgages.
D. stocks.
22. The value and functionality of money are determined by the:
A. lack of credibility in other financial assets.
B. credibility in other financial assets.
C. general acceptability to other people.
D. regulations defined by the Fed.
23. Which of the following is not a necessary characteristic of money?
A. difficult to counterfeit
B. available in unlimited supply
C. durable
D. divisible
24. One of the three functions of money is to serve as a:
A. financial asset.
B. financial liability.
C. real asset.
D. real liability.
25. Which of the following is not one of the functions of money?
A. Medium of exchange
B. Unit of account
C. Standard of well-being
D. Store of wealth
26. Non-liquid assets could perform which of the following functions?
A. Medium of exchange
B. Cash for transactions
C. Store of value
D. Trade without bartering
27. An asset is best able to serve as a medium of exchange if it is:
A. liquid.
B. non-liquid.
C. a store of value.
D. not a store of value.
28. When a clerk gives you a pair of jeans for your $50 bill, money is serving which function?
A. Medium of exchange
B. Store of real assets
C. Unit of account
D. Store of wealth
29. In order to function as a medium of exchange, money must:
A. be backed by gold.
B. maintain a constant value over an extended period of time.
C. be backed by some precious commodity.
D. be generally accepted in exchange for goods and services.
30. People living in the town of Norwich, England have begun a system of trade called the
LETS, which allows people to enter into exchanges without using the British pound. Members
offer a particular service, such as babysitting, gardening, and plumbing for which they get Croy
credits. They can then use these Croys to buy services from other people. Does this system
represent what economists call barter?
A. No, to be true barter, the exchange rate between the Croy and the British pound must be
flexible.
B. No, this group has merely replace one money, the pound, with a less flexible medium of
exchange that they call the Croy.
C. Yes, because it does not use the true money, the British pound.
D. Yes, because the Croy is not real money but just a bookkeeping account.
31. In Book 23 of Homer’s Iliad are these words: “The winner was to acquire a fire-straddling
tripod valued at twelve oxen by the Akhaians. As for the loser, in their midst Akhilleus placed a
woman versatile at crafts, whose value was four oxen.” What does this passage tell us about
economics in the Iliad?
A. Oxen were used as the unit of account.
B. Oxen were used as the medium of exchange.
C. Oxen were the best way to store wealth.
D. Oxen were used as legal tender.
32. During periods of high inflation, money becomes:
A. more useful as a unit of account.
B. more useful as a store of value.
C. more useful as a medium of exchange.
D. less useful as a unit of account.
33. In POW camps during World War II, nearly everything was traded for cigarettes. For
example, one bar of soap cost two cigarettes, and two candy bars cost four cigarettes. During the
time of the POW camps, cigarettes:
A. did not serve as money because their value was not backed by government.
B. did not serve as money because no one controlled the supply of cigarettes.
C. served as money for those who smoked.
D. served as money because they served as a unit of account, medium of exchange, and store of
wealth.
34. In Ithaca, NY, Ithaca Hours, valued at the area’s average hourly wage ($10), can be used to
buy goods and pay for services. About 5,700 Ithaca Hours are in circulation. Because they are
accepted in local stores and accepted by local people as income, Ithaca Hours:
A. although less liquid than Fed Notes, are money because they are accepted as money.
B. are money because they are backed by the local government.
C. are not money because they do not serve as a medium of exchange.
D. are not money because their value depends upon the area’s average hourly wage.
35. Money is a unit of account because:
A. it is liquid.
B. it is a store of value.
C. goods and assets are priced in terms of it.
D. barter would be impossible without it.
36. When money is used to set the value of goods such as cars, and TVs, money is serving as a:
A. medium of exchange.
B. unit of account.
C. store of wealth.
D. unit of wealth.
37. When money is held as an asset, it is serving as a:
A. standard of value.
B. unit of account.
C. medium of exchange.
D. store of wealth.
38. When you stuff dollar bills under your mattress, knowing that they will be there next year to
help buy your next major purchase, money is serving which function?
A. Medium of exchange
B. Store of real assets
C. Unit of account
D. Store of wealth
39. Money facilitates trade because it:
A. does not require a double coincidence of wants among individuals.
B. requires a double coincidence of wants among individuals.
C. does not require a medium of exchange.
D. requires carrying other goods around for barter.
40. When you deposit $200 in your savings account with the objective of withdrawing it later to
buy a video game that is about to be offered in the market in the near future, then the $200 is
serving which function?
A. Medium of exchange
B. Store of real assets
C. Unit of account
D. Store of wealth
41. In pre-colonial Central America, the cocoa seed served as a medium of exchange. The use of
cocoa seed for transactions was possible because it was:
A. not heavy and bulky.
B. generally accepted among the native Indians.
C. also suitable for eating.
D. easy to grow.
42. M1 consists primarily of cash in the hands of the public and:
A. savings account balances.
B. commercial paper.
C. checking account deposits.
D. certificates of deposit.
43. M1 includes which of the following?
A. Time deposits
B. Checking account deposits
C. Gold certificates
D. Money market mutual funds
44. The measure of money that best fulfills the medium of exchange function because it is most
liquid is:
A. M1.
B. M2.
C. M3.
D. L.
45. Which of the following will be affected if consumers take money out of checking accounts
to pay their credit cards?
A. M1
B. M2
C. M3
D. L
46. Checking account balances are:
A. not money.
B. not included in M1.
C. included in M2 but not M1.
D. included in M1 and serve as a medium of exchange.
47. Savings and money market accounts are not included in:
A. M1.
B. M2.
C. M3.
D. L.
48. Which of the following is not a function of money?
A. Medium of exchange.
B. Unit of account.
C. Store of wealth.
D. Equity instrument.
49. Which of the following is included in the M1 definition of money?
A. Checking accounts.
B. Time deposits.
C. Reserves.
D. Savings and money market accounts.
50. Which of the following components is not included in the M2 definition of money?
A. M1
B. Savings and money market accounts
C. Small-denomination time deposits
D. Bonds
51. In an advertisement for credit cards, the statement is made, “Think of a credit card as smart
money.” An economist’s reaction to this would be that a credit card is:
A. not money.
B. dumb money.
C. simply money.
D. actually better than money.
52. Using a credit card creates a financial:
A. liability for the person using it and a financial asset for the issuer.
B. asset for the person using it and a financial liability for the issuer.
C. liability for both the person using it and issuer.
D. asset for both the person using it and issuer.
53. Why do people often hold money instead of bonds?
A. Money is less liquid than bonds.
B. Money is needed for transactions.
C. Bonds pay interest.
D. Of the two, only money is a store of wealth.
54. Checking account deposits are classified as money because:
A. they earn interest income for the depositor.
B. they are ultimately obligations of the Treasury.
C. banks hold currency equal to their outstanding deposits.
D. they can be readily used to make purchases and pay debts.
55. When banks store your money in a checking account, they give you checks. These checks:
A. become liabilities to you.
B. become assets of the bank.
C. are another form of money.
D. make your money more liquid.
56. The M1 measure of money includes which of the following?
A. Currency in circulation
B. Interest payments
C. Savings account deposits
D. Excess reserves
57. The measure of money most closely correlated with the price level and economic activity is:
A. M1.
B. M2.
C. M3.
D. L.
58. The chief difference between the M1 and M2 measures of the money supply is:
A. the supply of M1 exceeds the supply of M2.
B. M2 excludes currency.
C. M1 is a broader, more comprehensive measure.
D. M2 includes assets with a lower liquidity than those in M1.
59. M2 includes which of the following?
A. Corporate bonds
B. Government bonds
C. Retail money funds
D. Gold
60. Small-denomination time deposits are included in:
A. M1.
B. M2.
C. currency.
D. checking accounts.
61. The largest component of M1 is:
A. checking accounts.
B. saving and money market accounts.
C. currency.
D. reserves.
62. Credit cards are:
A. financial assets for the holder.
B. financial assets for the issuer.
C. financial liabilities for the issuer.
D. neither financial liabilities nor financial assets.
63. Credit cards create:
A. financial liabilities for those who use them.
B. financial liabilities for the issuer once they are used by the holder.
C. money for those who use them.
D. money for those who issue them.
64. Credit cards: