Chapter 23
Modern Monetary Policy and the Challenges Facing Central Bankers
Multiple-Choice Questions
1. The Japanese experience of the 1990s shows:
a. monetary policy is always more effective than fiscal policy.
b. monetary policy always works.
c. sometimes monetary policy does not work.
d. central bankers should not try to counter the business cycle.
2. During the financial crisis of 2007-2009 which of the following countries experienced a
decline in real GDP roughly twice that of the United States?
a. Canada
b. United Kingdom
c. Japan
d. Turkey
3. All of the following could represent the transmission of monetary policy, except:
a. households altering their spending on durable goods.
b. income tax rates changing.
c. firms altering their growth plans.
d. net exports changing.
4. The monetary policy transmission mechanism refers to the concept that monetary policy:
a. always seems to work the way central bankers think it will.
b. works quickly.
c. only works through changes consumption and investment.
d. affects the economy in potentially many ways.
5. An easing of monetary policy should:
a. increase spending by households and businesses and increase net exports.
b. raise net exports but lower spending by households and businesses.
c. decrease spending by households and businesses as well as net exports.
d. increase investment and household spending but lower net exports.
6. Decreases in the real interest rate will result in a(n):
a. increase in net exports because it will lead to a depreciation of the dollar.
b. decrease in net exports because it will lead to a depreciation of the dollar.
c. increase in net exports because it will lead to an appreciation of the dollar.
d. decrease in net exports because it will lead to an appreciation of the dollar.
7. Which of the following traditional channels of monetary policy transmission can be described
as powerful?
a. The interest-rate channel
b. The exchange-rate channel
c. Both the interest-rate channel and the exchange-rate channel can be described as very
powerful
d. Neither the interest-rate channel nor the exchange-rate channel can be described as very
powerful
8. The interest-rate channel of monetary policy transmission appears to be:
a. weak because the investment component of total spending isn’t very sensitive to interest rates.
b. weak because the investment component of total spending is very sensitive to interest rates.
c. strong because the investment component of total spending isn’t very sensitive to interest
rates. d. strong because the investment component of total spending is very sensitive to interest
9. Changing short-term interest rates have a(n):
a. strong and immediate impact on household purchase decisions.
b. no impact on household purchasing decisions.
c. somewhat modest impact on household purchasing decisions.
d. none of the answers provided is correct.
10. With respect to consumer behavior, the interest-rate channel of monetary policy
transmission appears to be:
a. weak because people’s decisions to purchase cars or houses depend more on short-term rates
rather than long-term rates.
b. weak because people’s decisions to purchase cars or houses depend more on long-term rates
rather than short-term rates.
c. strong because people’s decisions to purchase cars or houses depend on the short-term rates
that policymakers can change.
d. strong because it affects both spending and saving decisions.
11. The impact of monetary policy on the exchange rate and net exports is best described as:
a. the strongest of all the parts of the transmission mechanism.
b. powerful, but lagging.
c. difficult to forecast.
d. nonexistent.
12. The direct impact on spending of short-term interest rate changes by central banks is:
a. definitely the strongest of all transmission mechanisms.
b. not that powerful.
c. only effective for consumption but not investment.
d. only effective for net exports but not for investment and consumption.
13. Which of the following statements is most correct?
a. High real interest rates cause recessions.
b. Central bankers raise real interest rates to cause recessions.
c. There is no evidence that high real interest rates are followed by lower levels of growth.
d. There is evidence that high real interest rates are followed by lower levels of growth.
14. The Federal Reserve surveys lending officers regularly to:
a. determine the interest rates they charge.
b. get a feel for the supply and demand for loans.
c. get a feel for the quantity and quality of loans.
d. all of the answers given are correct.
15. The Federal Reserve’s surveys of bank loan officers contain questions about:
a. the interest rates being charged.
b. the supply of and demand for loans.
c. the quantity and quality of loans.
d. all of the answers given are correct.
16. The Federal Reserve’s surveys of bank loan officers can help the Fed determine whether:
a. a drop in the quantity of loans granted resulted from fewer applications or a tightening of credit
standards.
b. an increase in the quantity of loans granted resulted from fewer applications or a tightening of
credit standards.
c. climbing interest-rate spreads are the result of more borrowers or fewer loans being granted.
d. an increase in the quantity of new loans was due to a decrease in supply or an increase in
demand.
17. The bank-lending channel of monetary policy focuses on:
a. the interest rate banks charge their largest customer.
b. the banks’ willingness and ability to lend.
c. how central bank policy influences the solvency of banks.
d. the deposit insurance premiums banks will end up paying.
18. An open market purchase of securities by the central bank from banks usually will:
a. increase the banks’ revenue even if the bank does nothing with the reserves.
b. induce the banks to make more loans since their revenue will decrease if they do nothing.
c. decrease the amount of deposits in the banking system.
d. decrease the banks’ willingness and ability to make loans.
19. An open market sale of securities by the central bank to banks usually will:
a. diminish the inclination of banks to make loans.
b. induce the banks to make more loans since their revenue will decrease if they do nothing.
c. increase the amount of deposits in the banking system.
d. increase the banks’ willingness and ability to make loans.
20. The additional capital requirements put in place following the banking crisis of the 1980s led
to a:
a. quick rebound in the willingness and ability of banks to make loans.
b. further slowdown in bank lending.
c. period of rapid economic growth in the early 1990s.
d. prolonged economic slowdown lasting much of the 1990s.
21. The balance-sheet channel of monetary policy works because it can:
a. increase a borrower’s asset value but not the burden of his/her liabilities.
b. change the value of a borrower’s assets and liabilities, but it can’t change a borrower’s net worth.
c. increase a borrower’s assets and reduce the cost of his/her liabilities.
d. none of the answers given is correct.
22. For a firm, a decrease in the interest rate resulting from monetary policy can:
a. decrease the value of its assets.
b. decrease the cost of its liabilities.
c. decrease its net worth.
d. all of the answers given are correct.
23. Firm A has assets that are mainly in financial securities and whose liabilities carry variable
interest rates; Firm B has the same assets as Firm A and the same amount of liabilities but its
liabilities are all at fixed interest rates. If the central bank lowers interest rates, everything else
constant:
a. Firm B’s net worth will increase more than Firm A’s.
b. Firm A’s net worth will increase more than Firm B’s.
c. Neither firm‘s net worth will change.
d. The net worth of both firms will increase and by the same amount.
24. If a borrower’s net worth increases:
a. the likelihood of moral hazard also increases.
b. the borrowers are likely to want to take less risk.
c. the moral hazard risk for the potential lenders decreases.
d. the supply of loans decreases.
25. Increases in a borrower’s net worth:
a. reduces the problem of moral hazard.
b. lowers the information costs of lending.
c. reduces the problem of adverse selection.
d. all of the answers given are correct.
26. Each of the following can contribute to the change in the supply of loans resulting from an
interest rate change, except:
a. changes in the percentage of loan payment to income.
b. changes in the potential of moral hazard.
c. changes in borrowers’ net worth.
d. increases in the demand for loans.
27. As interest rates rise the supply of loans may decrease because:
a. borrowers net worth rises.
b. demand for loans falls.
c. lenders are increasingly on the lookout for adverse selection.
d. all of the answers given are correct.
28. The importance of the bank-lending channel of monetary policy transmission:
a. becomes more important the more important banks are as a source of funds for firms and
individuals.
b. is likely to become more important with the growth of loan brokers and asset-backed securities.
c. has become more important as technology has solved the problems of information and moral
hazard.
d. none of the answers given is correct.
29. The relationship between interest rates and stock prices is referred to as:
a. the interest-rate mechanism of monetary policy.
b. the investment-spending mechanism of monetary policy.
c. the wealth-creating mechanism of monetary policy.
d. the asset-price channel of monetary policy.
30. If central bankers raise the interest rate, the asset-price channel of monetary policy implies:
a. stock prices will decrease.
b. stock prices will remain the same but bond prices will increase.
c. bond prices will remain flat.
d. stock prices will increase and bond prices will remain flat.
31. Stock prices may rise from a reduction in interest rates because:
a. the present value of future earnings will increase.
b. stockholders will expect lower future earnings.
c. financial market participants are less optimistic about future earnings.
d. the present value of future earnings will decrease.
32. Stock prices rise:
a. usually six to twelve months after interest rates are reduced.
b. immediately after interest rates are increased.
c. in anticipation of an interest rate reduction.
d. only after people are convinced the central bank interest rate cut is permanent.
33. The relationship between real estate markets and interest rates is:
a. nonexistent.
b. inverse; higher interest rates drive down real estate prices and vice versa.
c. complex; cuts in the short-term interest rate lead to increases in long-term rates and higher
real estate prices.
d. direct; high interest rates lead to high real estate values as people abandon other financial
assets.
34. Higher home values can increase output in the economy if:
a. people take some of the equity out of their homes and spend it on a vacation.
b. people sell their existing home and build a new one.
c. people finance their child’s college education by securing a second mortgage on their now
higher-valued home.
d. all of the answers given are correct.
35. Higher stock prices can lead to greater investment spending by firms because:
a. the cost of external financing is lower.
b. the market value of a firm is now less than the replacement cost of the firm.
c. the firm gets 100 percent of the increase in the stock value.
d. the cost of internal financing is lower and the firm also gets 100 percent of the increase in
the stock value.
36. Each of the following is a transmission channel of monetary policy, except:
a. the balance-sheet channel.
b. the tax-impact channel.
c. the asset-price channel.
d. the exchange-rate channel.
37. Which of the following statements would you say best reflects monetary policy?
a. It is a hard and fast science.
b. Its impact is impossible to predict.
c. It is a lot like gambling because the outcomes are most of the time uncertain.
d. There is certainly some science involved, a lot of understanding that is needed, but a lot of
uncertainty still remains.
38. The challenges facing policymakers today include each of the following, except:
a. the economy‘s sustainable growth rate is highly stable.
b. nominal interest rates cannot fall below the effective lower bound (somewhat below zero).
c. stock and property values are subject to booms and busts.
d. the structure of the economy and financial system continues to evolve.
39. To compensate for the collapse of intermediation and the fragility of financial markets
during the 2007-2009 financial crisis, central banks deployed all but which of the following
unconventional tools:
a. Forward guidance
b. Lowering interbank lending interest rate targets
c. Quantitative easing
d. Targeted asset purchases
40. All but which of the following is a reason policymakers are concerned about the strength of
the rebound from the 2007-2009 financial crisis:
a. banks would make credit expensive and difficult to obtain.
b. investors would be cautious about buying securitized assets.
c. households would prefer to save more and borrow less.
d. the pace of technological change would slow.
41. All but which of the following could be adjusted as a means of deflating asset price
bubbles:
a. tariffs
b. capital requirements
c. capital surcharges
d. fees for insuring the capital of banks
42. If a zero-coupon bond sells for par, the nominal interest rate on that bond is:
a. 100 percent.
b. negative.
c. zero.
d. infinity.
43. Bonds must have yields above the effective lower bound because:
a. the U.S. treasury guarantees all bonds to have a positive yield.
b. the banking technology does not exist to deal with negative yields.
c. people can always hold cash.
d. all of the answers given are correct.
44. The fact that investors can always hold cash creates:
a. a problem for monetary policymakers when the short-term interest rates approach zero.
b. an opportunity for the U.S. treasury to issue bonds that actually have negative nominal
interest rates.
c. an upward bound on nominal interest rates.
d. negative nominal interest rates.
45. One of the limiting factors for using monetary policy
i
s
:
a
. the central banks are limited in their ability to print money.
b. central banks are limited in their ability to make loans.
c. there is a lower nominal-interest-rate bound of zero.
d. the real interest rate cannot fall below zero.
46. Firms have a harder time getting loans during periods of deflation because:
a. deflation aggravates information problems in ways dissimilar to inflation.
b. for a firm seeking a loan, deflation increases the real amount of their liabilities without
increasing the real value of their assets.
c. deflation decreases the net worth of firms.
d. all of the answers given are correct.
47. A way for policymakers to avoid the problems that deflation can present and still meet
their objective of price stability is to:
a. set a target of zero inflation.
b. keep the monetary base fixed.
c. set a higher inflation target.
d. target a nominal interest rate of zero.
48. One reason most central bankers do not set an inflation target of zero is:
a. it is almost impossible to achieve.
b. they believe it would cause price volatility.
c. the central bank could hit the lower bound.
d. none of the answers given is correct.
49. When central bankers are acting preemptively they are:
a. letting markets work and taking a wait and see approach.
b. aggressively trying to hit a zero inflation target.
c. usually focused on reducing expansionary gaps.
d. taking bold steps to stabilize the economy.
50. Between September 2007 and December 2008, the FOMC reduced the target federal funds
rate 5.25 percentage points toward zero. A reason for this was that the FOMC:
a. was acting preemptively.
b. feared over stimulating the economy.
c. was taking a wait and see approach to previous cuts.
d. was feeling political pressure to act.
51. If the target federal funds rate reaches the lower bound:
a. the FOMC would run out of policy options.
b. monetary policy would no longer be of use.
c. the FOMC would turn to unconventional measures, such as forward guidance.
d. the FOMC would simply reset the target.