Chapter 18
Monetary Policy: Stabilizing the Domestic Economy
Multiple-Choice Questions
1. The focus for most central banks today is:
a. the quantity of M1.
b. interest rates.
c. the quantity of M2.
d. controlling the size of the money multiplier.
2. The ways the Fed can inject reserves into the banking system include:
a. an increase in the size of the Fed’s balance sheet through purchasing securities.
b. increasing the discount rate.
c. making loans to non-bank corporations.
d. an increase in the size of the Fed’s balance sheet through selling securities.
3. Which of the following statements is most correct?
a. The Fed can control the amount of reserves, but cannot control the monetary base.
b. The Fed can control the make-up of the monetary base, but cannot affect the market interest
rate.
c. The Fed can control the size of the monetary base but not the price of its components.
d. The Fed can control either the size of the monetary base or the price of its components.
4. The conventional policy tools available to the Fed include each of the following, except the:
a. currency-to-deposit ratio.
b. discount rate.
c. target federal funds rate range.
d. reserve requirement.
5. The conventional tools of monetary policy include:
a. the target federal funds rate range.
b. the deposit rate.
c. the currency-to-deposit ratio.
d. both the deposit rate and the target federal funds rate range.
6. Which of the following statements is most correct?
a. The FOMC sets the federal funds rate.
b. The discount rate is the primary policy tool of the FOMC.
c. The FOMC sets the target federal funds rate range.
d. The difference between the target and actual federal funds rate is the dealer’s spread.
7. The market for reserves derives from the fact that:
a. reserves pay a relatively high return.
b. desired reserves don’t always equal actual reserves.
c. the Fed refuses to lend to banks.
d. banks do not want excess reserves.
8. The fact that there is a market for federal funds enables banks to:
a. make fewer loans than they would otherwise.
b. borrow more from the Fed.
c. hold a lower level of excess reserves than they would otherwise hold.
d. hold less in required reserves.
9. Which of the following would be categorized as an unconventional monetary policy tool?
a. The interest rate on excess reserves (IOER)
b. Targeted asset purchases
c. Federal funds rate target range
d. Deposit rate
10. Federal funds loans are:
a. secured loans between banks and the Fed.
b. unsecured loans.
c. collateralized loans between banks.
d. guaranteed by the FDIC.
11. Until 2008, the Fed could make the market federal funds rate equal the target rate by:
a. mandating that all loans be transacted at the target rate.
b. setting the discount rate below the federal funds rate.
c. entering the federal funds market as a borrower or a lender.
d. paying higher interest on reserves.
12. Reserve demand becomes horizontal at the IOER rate because:
a. banks will not make loans at less than the IOER rate.
b. banks must earn more than the IOER rate to lend.
c. the reserve supply is always set by the Fed so that the federal funds rate is greater than the
IOER rate.
d. the IOER rate is the upper bound of the target federal funds rate
13. Reserves currently are so abundant that:
a. the federal funds rate is not easily manipulated with open market operations.
b. the Fed cannot affect the federal funds rate.
c. the Fed prefers to target the discount rate.
d. the IOER rate is ineffective.
14. The principle tool the Fed uses to keep the federal funds rate close to the target is:
a. the required reserve rate.
b. discount lending.
c. open market operations.
d. the IOER rate.
15. If the market federal funds rate were below the target rate, the response from the Fed would
likely be to:
a. raise the IOER rate.
b. purchase U.S. Treasury securities.
c. sell U.S. Treasury securities.
d. raise the discount rate.
16. If the market federal funds rate were above the target rate, the response from the Fed would
likely be to:
a. purchase U.S. Treasury securities.
b. sell U.S. Treasury securities.
c. lower the IOER.
d. lower the discount rate.
17. If the demand for reserves remains constant and the market federal funds rate is below the
target rate, the Fed would:
a. increase the IOER.
b. decrease the IOER.
c. do nothing; the Fed will let the market work.
d. increase the supply of reserves.
18. If the current market federal funds rate is in the target rate range and the demand for reserves
decreases, the likely response in the federal funds market will be:
a. the market federal funds rate will decrease.
b. the market federal funds rate will equal the target rate.
c. the market federal funds rate will increase.
d. nothing; the reserve supply is so high that the market federal funds rate will be unchanged.
19. If the current market federal funds rate equals the target rate and the demand for reserves
increases, the likely response in the federal funds market will be:
a. a decrease in the market federal funds rate.
b. a market federal funds rate that will equal the target rate.
c. an increase in the market federal funds rate.
d. nothing; reserve supply is so high that the market federal funds rate will be unchanged.
20. The Fed can _____ in the economy.
a. change interest rates, but not the supply of money
b. change the supply of money, but not the interest rates
c. change both interest rates and the supply of money
d. change neither interest rates nor the supply of money
21. The daily reserve supply curve is:
a. upward sloping.
b. downward sloping.
c. vertical.
d. horizontal.
22. Which of the following statements is most correct if the Fed sees no need to engage in
expansionary monetary policy?
a. The Fed will likely shrink its balance sheet rapidly.
b. Eventually, the Fed will shrink its balance sheet by letting securities it holds expire.
c. It will be impossible for the Fed to shrink its balance sheet.
d. The Fed is likely to increase the size of its balance sheet.
23. Discount lending by the Fed:
a. is the key component of monetary policy.
b. is more important today than in years past.
c. is usually small except in times of crisis.
d. amounts to five billion dollars in volume during an average week.
24. Discount lending ties into the Fed’s function of:
a. lender of last resort.
b. open market operations.
c. the government’s bank.
d. regulation of banking.
25. An increase in the federal funds rate should:
a. cause mortgage rates to increase by less than the increase in the federal funds rate.
b. have an inverse impact on mortgage rates.
c. not impact mortgage rates since the federal funds rate is a very short-term rate.
d. cause the mortgage rates to increase by more than the increase in the federal funds rate.
26. When the Fed wants to tighten monetary policy, the staff of the Fed is likely to:
a. increase discount loans.
b. increases IOER.
c. purchase U.S. Treasury Securities.
d. sell U.S. Treasury Securities.
27. The ECB now frequently uses _____ to inject reserves into the banking systems of countries
that use the Euro.
a. discount loans
b. repurchase agreements
c. an outright purchase of securities
d. an outright sale of securities.
28. The Fed would use a reverse repo when they:
a. want to temporarily increase the monetary base.
b. forecast a permanent decrease in the demand for monetary base.
c. forecast a permanent increase in the demand for monetary base.
d. want to temporarily decrease the monetary base.
29. The interest on excess reserves is:
a. the upper bound of the federal funds target rate range.
b. the lower bound of the federal funds target rate range.
c. unrelated to the federal funds target rate range.
d. the target federal funds rate.
30. In 2002, the Federal Reserve changed its discount lending procedures. Which of the
following statements is correct?
a. For most of its history the Federal Reserve has lent reserve to banks at a rate equal to the target
federal funds rate; after 2002 the rate would be below the target federal funds rate.
b. The changes made in 2002 have made it more difficult for the Fed to meet its interest-rate
stability objective.
c. Before 2002 the Fed discouraged banks from borrowing and actually created volatility in the
market for reserves.
d. The Fed now controls the quantity of credit extended as well as its price.
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31. The Fed will make a discount loan to a bank during a crisis:
a. no matter what condition the bank is in.
b. only if the bank is sound financially and can provide collateral for the loan.
c. but if the bank doesn’t have collateral the interest rate is higher.
d. only if the bank would fail without the loan.
32. For most of the Fed’s history, the Fed:
a. lent reserves at an interest rate below the target federal funds rate.
b. found banks would borrow from the Fed far more often than they would borrow in the federal
funds market.
c. was very lenient in making discount loans.
d. tied the discount rate to the rate on Treasury securities.
33. The fact that, for most of its history, the Fed was reluctant to make discount loans actually:
a. at times was a destabilizing force for financial markets.
b. proved to be a very stabilizing force for financial markets.
c. pushed the discount rate above the target federal funds rate.
d. resulted in banks in very strong financial shape as being the only ones borrowing from the
Fed.
34. The types of loans the Fed makes consist of each of the following, except:
a. primary credit.
b. conditional credit.
c. seasonal credit.
d. secondary credit.
35. Primary credit extended by the Fed is:
a. for banks needing long-term loans to work out financial problems.
b. the highest interest rate loans offered by the Fed.
c. short-term, usually overnight loans.
d. loans offered at the prime interest rate for periods exceeding thirty days but less than one year.
36. The interest rate on primary credit extended by the Fed is:
a. the average of the prime interest rate charged by the ten largest banks in the nation.
b. below the IOER.
c. equal to the IOER.
d. above the IOER.
37. One of the reasons primary credit exists is to:
a. bail out banks which are in financial trouble.
b. provide additional reserves when the open market staff’s forecasts are off.
c. provide banks with an available source for unsecured lending.
d. provide banks with a low interest source for long-term capital.
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38. Secondary credit provided by the Fed is designed for:
a. banks who qualify for a lower interest than what is available under primary credit.
b. banks that are in trouble and cannot obtain a loan from anyone else.
c. banks that want to borrow without putting up collateral.
d. foreign banks.
39. The interest rate the Fed charges for secondary credit is:
a. above the primary discount rate.
b. below the market federal funds rate.
c. below the primary discount rate.
d. equal to the primary discount rate.
40. Seasonal credit provided by the Fed is not as common as it used to be because:
a. there are fewer banks in seasonal areas.
b. other sources for long-term loans have developed for banks in seasonal areas.
c. seasonal credit has been replaced by secondary credit.
d. seasonal credit is being replaced by primary credit.
41. The Fed is reluctant to change the required reserve rate because:
a. changes in the rate have a small impact on the actual quantity of money.
b. the money multiplier is not impacted by the required reserve rate.
c. the time lag between changing the required reserve rate and changes in the money supply can
be too long.
d. small changes in the required reserve rate can have too big of an impact on the money
multiplier and the level of deposits.
42. In 1936, when the Fed doubled the reserve requirements, bank executives:
a. allowed their excess reserves to decline.
b. increased excess reserves to the level prior to the change in requirements.
c. maintained the level of excess reserves desired by the Fed.
d. increased lending from remaining reserves, causing inflation.
43. Today, reserve requirements are:
a. set in a way that makes reserve demand highly unpredictable.
b. changed whenever the target federal funds rate is changed.
c. changed instead of making changes in the discount rate.
d. really not a direct tool of monetary policy.
44. For the European Central Bank (ECB), the equivalent of the FOMC’s target federal funds rate
is the:
a. European target discount rate.
b. European target federal funds rate.
c. target refinancing rate.
d. London Inter-Bank Offer Rate.
45. The European Central Bank’s equivalent of the Fed’s open market operations (OMO) is:
a. very similar to the Fed’s OMO in that they are highly centralized.
b. dissimilar to the Fed’s OMO in that the operations are conducted at all 19 of the National
Central Banks simultaneously.
c. similar to the Fed’s OMO in that they accept only U.S. Treasury securities in their refinancing
operations.
d. dissimilar to the Fed’s OMO because fewer banks participate in the auctions of the securities.
46. The European Central Bank’s Marginal Lending Facility is used to provide:
a. short-term loans to banks at rates below the target refinancing rate.
b. long-term loans to banks at rates above the target refinancing rate.
c. short-term loans at rates above the target refinancing rate.
d. long-term loans to banks at rates below the target refinancing rate.
47. Which of the following statements is true?
a. The ECB’s marginal lending facility was the model for the Fed’s redesign of its procedures for
lending to banks.
b. The ECB’s success in controlling reserves by paying interest on them has led the Fed to do the
same.
c. The ECB’s weekly auctions include only a few of the largest banks in Europe.
d. The Fed’s redesign of its procedures for lending to banks was the model for the ECB’s
marginal lending facility.
48. Within the European Central Bank, banks with excess reserves:
a. can deposit them with the ECB and earn an interest rate below the target refinancing rate.
b. earn no interest on excess reserves, similar to the system in the U.S.
c. must deposit the excess with the ECB’s Deposit Facility.
d. none of the above answers is correct; there are no required reserves for the ECB and so
therefore no excess reserves.
49. If banks switch from holding reserves to holding cash, the policy impact of a negative
deposit rate would be:
a. negligible.
b. expansionary.
c. contractionary.
d. indeterminate.
50. During the height of the euro-are crisis, deposits at the ECB’s deposit facility surged above
€800 billion because:
a. the deposit rate increased.
b. euro area commercial banks preferred the safety of deposits at the central bank.
c. euro area commercial banks preferred lending to other commercial banks.
d. euro area commercial banks were compelled to increase deposits by ECB policy changes.
51. One key difference between the Fed and the European Central Bank (ECB) in their reserve
requirements is that the:
a. reserve requirements of the ECB are at a much higher rate than the Fed’s.
b. ECB’s reserve requirements are more difficult for banks to predict.
c. reserve requirement of the ECB are determined annually.
d. ECB reserve requirement is based on all of a bank’s liabilities.
52. The European equivalent of the U.S.’s market federal funds rate is called the:
a. overnight cash rate.
b. target refinancing rate.
c. European discount rate.
d. overnight repurchase rate.
53. Which of the following statements is most correct?
a. The FOMC is more successful at keeping the market rate closer to the target rate than the ECB
until the Fed began paying interest on reserves.
b. The ECB is more successful at keeping the market rate closer to the target rate than the FOMC
until the Fed began paying interest on reserves .
c. The ECB and FOMC are equally successful at keeping the target rate in range.
d. The ECB seldom has the market rate close to the target rate.
54. Over the years most monetary policy experts would agree with each of the following
statements, except:
a. the reserve requirement is not useful as an operational instrument.
b. central bank lending is necessary to ensure financial stability.
c. short-term interest rates are the best tool to use to stabilize short-term fluctuations in prices
and output.
d. transparency in policy making hinders accountability.
55. Which of the following features would characterize a good monetary policy instrument?
a. Observable only to monetary policy officials.
b. Tightly linked to monetary policy objectives.
c. Controllable and rigid.
d. Difficult to change.
56. The reserve requirement does not meet all of the criteria of a good monetary policy tool,
because it:
a. is not controllable.
b. is not observable.
c. cannot be quickly changed.
d. it has a predictable impact on the economy.
57. From 1979 to 1982, the Fed targeted bank reserves as the monetary policy tool. One side
effect of this strategy was:
a. the inflation rate increased to over 18 percent in 1983.
b. many banks failed that otherwise may not have.
c. interest rates rose very high.
d. inflation remained high for most of the 1980’s.
58. In the period of 1979 to 1982, if the Fed had set an interest rate target that was equal to the
actual market interest rates that occurred, the:
a. economy would have been better off.
b. target would not have been politically acceptable.
c. target would have been a federal funds rate of zero percent.
d. inflation rate would have risen further.
59. If reserve demand is volatile, in order for the central bank to keep interest rates from being
volatile, it must:
a. target the quantity of reserves.
b. set targets for both interest rates and the quantity of reserves.
c. not target the interest rates.
d. let the quantity of reserves fluctuate.