I. Multiple Choice Section (30 points).

EC132.01(02)
Serge Kasyanenko
Principles of Macroeconomics Fall 2005
Sample Midterm 2 (100 points)
I. Multiple Choice Section (30 points). Select one correct answer.
1. A boycott of British goods by U.S. consumers might result in:
A) a depreciation of the dollar relative to the pound.
B) a depreciation of the pound relative to the dollar.
C) an inflation of the domestic economy of Great Britain.
D) another war in the colonies.
E) none of the above.
name:
2. Let the unemployment rate climb from 6.5% to an observed rate of 8%. Actual GDP must therefore:
A) fall by 3 percentage points.
B) fall by 1.5 percentage points.
C) fall by .75 percentage points.
D) increase by .75 percentage points.
E) increase by 1.5 percentage points.
3. An expansion phase of the usual business cycle can be most appropriately represented as:
A) an outward shift in the aggregate demand curve.
B) a downward shift in the aggregate demand curve.
C) an upward shift in the aggregate supply curve.
D) a downward shift in the aggregate supply curve.
E) a rotation of the aggregate supply curve to a more vertical position.
4. An example of an "internal" theory of the business cycle is:
A) sunspots.
B) wars and population increases.
C) the acceleration principle.
D) multiplier reactions to innovational waves.
E) none of the above.
5. "Commercial" banks are the main financial institutions:
A) that sell life insurance.
÷ B) that make loans aiding consumers.
C) that store gold.
D) that handle trusts.
E) that issue demand deposits.
6. A reduction in legal required reserve ratio will tend to:
A) reduce the money supply and reduce commercial bank loans.
B) reduce the money supply and increase commercial bank loans.
C) increase the money supply and increase commercial bank loans.
÷ D) increase the money supply and decrease commercial bank loans.
E) leave the money supply unaffected.
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7. If all commercial banks were forced to keep 100 percent reserves on checking and saving accounts:
A) no financial institution would make loans.
B) multiple money creation would not be possible.
÷ C) people could not have the modern convenience of check writing.
D) all of the above would be true.
E) none of the above would be true.
8. Demand deposits are included as a form of money because:
A) the government or central bank authorizes their use.
B) there is gold to back them.
C) people believe there is gold to back them.
D) people can buy goods with them.
E) people are ordered to accept them.
9. The money-supply multiplier assumes that:
A) all new money is deposited in checking accounts.
B) individuals do not retain cash balances.
C) banks do not hold excess reserves.
D) all of the above.
÷ E) none of the above.
10. The real rate of interest is the rate of interest:
A) paid on a loan after all other bank fees have been deducted.
B) paid on a loan inclusive of all other bank fees and charges.
C) banks charge their largest and most credit-worthy customers.
÷ D) banks pay on deposits over $100,000.
E) found by subtracting the inflation rate from the nominal rate.
11. A Fed open-market purchase:
A) increases only banks' liabilities.
B) increases only banks' assets.
÷ C) increases banks' assets and reduces their liabilities.
D) increases banks' assets and liabilities together.
E) has no effect banks' balance sheets.
12. The link from monetary policy to changes in real macroeconomic variables is one that:
A) depends not at all on the interest rate.
B) depends only upon the sensitivity of investment to changes in the interest rate.
C) depends only upon the sensitivity of demand for money to changes in the interest rate.
÷ D) depends upon the sensitivity of both investment and the demand for
money to changes in the interest rate.
E) is direct, and works automatically within the walls of American banks.
13. Required reserve ratios:
A) exist primarily to ensure that deposits are safe.
B) exist to penalize banks that are members of the Federal Reserve System.
C) exist primarily to help the Fed control the money supply.
D) exist for all of the above reasons.
E) exist for none of the above reasons.
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14. In the official statistics, a worker who is so discouraged that he has
stopped looking for employment is counted as:
A) unemployed.
÷ B) underemployed.
C) in the labor force but not employed.
D) not in the labor force in exactly the same way as a woman who works
÷ exclusively at keeping house.
E) none of the above.
15. A reduction in reserve requirements of member banks tends to counter a recession by:
A) raising interest rates.
B) reducing excess reserves.
C) increasing excess reserves.
÷ D) decreasing outstanding loans.
E) decreasing aggregate demand.
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II. True/False Section (20 points)
For each question provide a short explanation (no more than 1-2 sentences) of your
answer. Use equations if necessary
1. (True/False)
An increase in the discount rate would be a signal of a
tightening in the money supply.
2. (True/False)
Growth in the labor force is the only identified source of
growth in potential GDP.
3. (True/False)
If the Federal Reserve buys bonds, and the sellers prefer to
keep the proceeds in currency, then the potential increase in
the total money supply will be smaller than if they keep the
proceeds in banks.
4. (True/False)
If the reserve requirement were 100%, then the money
multiplier would equal 0.
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III. Definitions (20 points)
For every question, give a short definition of all three terms and explain the link between
the first two terms and the third one, shown in bold.
1. (i) Open Market Operations, (iii) Money Supply, (iii) Interest Rate:
2. (i) Nominal Interest Rate, (ii) Inflation Rate, (iii) Real Interest Rate:
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IV. Graphs (15 points)
Use a separate diagram to answer each question. Label all axes, indicate initial equilibrium
and show the direction of a change. Label the final state of the economy. If necessary,
provide a short description for each graph.
1.
Show the effect of the higher government
expenditure on the current account of an
open economy.
2.
Show the effect of the higher reserve
requirement on the interest rate in the
economy.
3.
Show the effect of the higher minimum
wage on the number of unemployed
workers in the economy.
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V. Essay (15 points)
The Fed is concerned with rising unemployment in the economy and is trying to design
measures to mitigate economic slowdown.
a.
Briefly describe what policies the Fed can implement to achieve this target.
b. Choose one of the policies, you suggested in the previous question, and track its effect on
the financial system, given that the initial state of the Fed and commercial banks is
described as:
(Use the same steps as in the problem set)
Reserve Requirement 10%
Federal Reserve Balance Sheet
Balance Sheet of Commercial Banks
Assets
Liabilities
Assets
Liabilities
Securities 300 Currency 250 Reserves 50 Dem. Dep. 500
Reserves 50 Loans 450
Total 300 Total 300 Total 500 Total 500
Policy description:
Instrument Chosen:
Size of the Instrument:
(i) Immediate Change
Federal Reserve Balance Sheet
Balance Sheet of Commercial Banks
Assets Liabilities Assets Liabilities
Securities Currency Reserves Dem. Dep.
Reserves
Loans
Total Total Total Total
(ii) Final Adjustment
Federal Reserve Balance Sheet
Balance Sheet of Commercial Banks
Assets Liabilities Assets
Liabilities
Securities Currency Reserves Dem. Dep.
Reserves
Loans
Total Total Total Total
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. Using graphs, show the effect of this policy on the interest rates, prices and output. If
necessary, provide a short description of your graphs.
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