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UNIVERSITY OF SYDNEY
ECOS2004 Money and Banking
Mid-Semester Test #1—replacement exam
May 2016
Instructions:
_______________________________________________________________________
Time allowed: 90 minutes (plus 5 minutes’ reading time).
The exam consists of two sections: Sections I and II.
Section I includes 30 multiple choice questions, each worth 1 mark. To give your answers in this
section, mark the letter representing the best response on the accompanying multiple-choice answer
sheet. You must use a pencil for the machine to be able to read your answer. Make sure you write
your name and student number on the multiple-choice answer sheet as well as on this exam
form in the space provided above. You should enclose the multiple-choice answer sheet with
this exam form when you submit your completed answers at the end of this exam.
Section II includes 4 short answer question, each worth 5 marks. You should answer every question.
Your answers should be given in the space provided right below the questions. Any answer written
outside the space provided will not be marked. That is, your answers must be succinct (i.e., short
and clear).
This is a closed-book exam.
Non-programmable calculators may be used. No other aides are allowed.
This exam form should be returned at the end of the exam. That is, the exam may NOT be removed.
Page 1 of 8 Section I: Multiple-Choice Questions (questions 1 to 30, each worth 1 mark)
Answer all 30 questions on the computer answer sheet provided.
1) High interest rates might lead a corporation to ________ building a new factory.
A) complete
B) consider
C) decide against
D) contemplate
2) To convert a figure for Australian nominal GDP into a figure for Australian real GDP, you
would use the following Australian price index:
A) the household consumption deflator.
B) the total CPI measure.
C) the GDP deflator.
D) the measure of the CPI that excludes volatile items.
3) Which of the following can be described as direct finance?
A) You take out a mortgage loan from your commercial bank.
B) A friend lends you $2,500.
C) You buy shares in a firm by transacting in the stock exchange.
D) You start a savings deposit with a commercial bank.
4) Money ________ transaction costs, allowing people to specialize in what they do best.
A) reduces
B) increases
C) enhances
D) eliminates
5) The United States’ M1 measure of money includes
A) small-denomination time deposits.
B) traveler’s checks.
C) money market deposit accounts.
D) money market mutual fund shares.
6) Which of the following is included in the U.S. definitions of both M1 and M2?
A) currency
B) savings deposits
C) small-denomination time deposits
D) money market deposit accounts Page 2 of 8 7) If a U.S. individual moves money from a demand deposit account to a money market deposit
account, the most likely outcome for the U.S. monetary aggregates is
A) M1 decreases and M2 stays the same.
B) M1 stays the same and M2 increases.
C) M1 stays the same and M2 stays the same.
D) M1 increases and M2 decreases.
8) Of the following monetary aggregates reported for Australia, which is the narrowest?
A) Currency.
B) M1.
C) M3.
D) Broad Money.
9) An $8,000 coupon bond with a $400 coupon payment every year has a coupon rate of
A) 5 percent.
B) 8 percent.
C) 10 percent.
D) 40 percent.
10) Which of the following bonds would you prefer to be buying?
A) a $20,000 face-value security with a 10 percent coupon selling for $18,000
B) a $20,000 face-value security with a 7 percent coupon selling for $20,000
C) a $20,000 face-value security with a 9 percent coupon selling for $20,000
D) a $20,000 face-value security with a 10 percent coupon selling for $20,000
11) The interest rate on a consol equals the
A) price times the coupon payment.
B) price divided by the coupon payment.
C) coupon payment plus the price.
D) coupon payment divided by the price.
12) If the nominal rate of interest is 2 percent, and the expected inflation rate is minus 12
percent, the real rate of interest is
A) 2 percent.
B) minus 10 percent.
C) 14 percent.
D) 12 percent. Page 3 of 8 13) In which of the following situations would you prefer to be lending funds?
A) The interest rate is 9 percent and the expected inflation rate is 7 percent.
B) The interest rate is 5 percent and the expected inflation rate is 1 percent.
C) The interest rate is 13 percent and the expected inflation rate is 15 percent.
D) The interest rate is 25 percent and the expected inflation rate is 50 percent.
14) Holding all other factors constant, the quantity demanded of a financial asset is
A) positively related to wealth.
B) negatively related to its expected return relative to that on alternative assets.
C) positively related to the risk of its returns relative to that of alternative assets.
D) negatively related to its liquidity relative to that of alternative assets.
15) Suppose the interest rate on a bond is less than the equilibrium interest rate. In that case, in
the bond market there is excess ________ and the interest rate will ________.
A) demand; increase
B) demand; decline
C) supply; decline
D) supply; increase
16) During a business cycle recession when income and wealth are falling, the demand for bonds
________ and the demand curve shifts to the ________, everything else held constant.
A) falls; right
B) falls; left
C) rises; right
D) rises; left
17) When the expected inflation rate falls, the real cost of borrowing ________ and bond supply
________, everything else held constant.
A) increases; increases
B) increases; decreases
C) decreases; increases
D) decreases; decreases
18) An excess demand for money will prompt individuals to ________ bonds, leading interest
rates to ________.
A) sell; rise
B) sell; fall
C) buy; rise
D) buy; fall Page 4 of 8 19) In the Keynesian liquidity preference framework, a decrease in the interest rate leads the
demand curve for money to ________, everything else held constant.
A) shift right
B) shift left
C) stay where it is
D) invert
20) In the Keynesian liquidity preference framework, a fall in the price level causes the demand
for money to ________ and the demand curve to shift to the ________, everything else held
constant.
A) increase; left
B) increase; right
C) decrease; left
D) decrease; right
21) Of the four effects on interest rates from an increase in the money supply, which will be a
source of downward pressure on interest rates?
A) liquidity effect.
B) income effect.
C) price level effect.
D) expected inflation effect.
22) During the 1970s, nominal interest rates increased almost continuously in many advanced
economies. The most important part of the explanation for this is likely the fact that:
A) failures of commercial banks reduced the money supply.
B) there was a decline in the level of real GDP.
C) there were repeated bouts of recession and expansion.
D) there were increasing expected rates of inflation.
23) A fall in the rate of money supply growth will be most likely to increase the nominal interest
rate in the short run if the
A) liquidity effect is smaller than the expected inflation effect and interest rates adjust
immediately to changes in expected inflation.
B) liquidity effect is the same size as the expected inflation effect and interest rates adjust
immediately to changes in expected inflation.
C) liquidity effect is larger than the expected inflation effect and interest rates adjust to changes
in expected inflation only with a considerable time delay.
D) liquidity effect is totally absent.
24) When the yield curve is steeply upward sloping
A) long-term interest rates are above short-term interest rates.
B) short-term interest rates are above long-term interest rates.
C) the yield curve can be described as being inverted.
D) short-term and long-term interest rates are equal. Page 5 of 8 25) If the expected path of one-year interest rates over the next five years is 3 percent, 4 percent,
6 percent, 7 percent, and 5 percent, then the expectations theory of the term structure predicts
that today’s interest rate on a five-year bond is
A) 4 percent.
B) 5 percent.
C) 6 percent.
D) 7 percent.
26) If the expected path of 1-year interest rates over the next five years is 1 percent, 2 percent, 3
percent, 4 percent, and 1 percent, the expectations theory of the term structure predicts that the
bond with the highest interest rate today is the one with a maturity of
A) two years.
B) three years.
C) four years.
D) five years.
27) The expectations theory of the term structure has the implication that:
A) short-term interest rates and long-term interest rates are always equal.
B) although it is possible for bonds of different maturities to have different interest rates, interest
rates on bonds of different maturities do frequently move in the same direction.
C) everything else equal, buyers of bonds prefer short-term bonds to long-term bonds.
D) everything else equal, buyers of bonds prefer long-term bonds to short-term bonds.
28) According to the expectations theory of the term structure, an inverted yield curve indicates
that short-term interest rates
A) are expected to rise in the future.
B) are below long-term interest rates.
C) are expected to remain unchanged from their current values.
D) are expected to fall in the future.
29) A key assumption in the segmented markets theory is that bonds of different maturities
A) are not substitutes at all.
B) are perfect substitutes.
C) always have the same interest rate as one another.
D) are substitutes but not perfect substitutes.
30) The ________ of the term structure states the following: the interest rate on a long-term bond
will equal an average of short-term interest rates expected to occur over the life of the long-term
bond plus a term premium that responds to the supply and demand conditions for that bond.
A) segmented markets theory
B) expectations theory
C) liquidity premium (preferred habitat) theory
D) separable markets theory Page 6 of 8 Section II (Questions 31 to 34, each worth 5 points)
Answer the questions in the space provided after each question. Show your working in each
case.
31. What is the yield to maturity on a $100,000-face-value discount bond, maturing in one year,
that currently sells for $80,000? Questions 32 and 33 below are based on the following table.
Information on a 10%-Coupon-Rate Bond When Interest Rates Rise from
10% This Year to 20% Next Year
Years to
maturity when
bond is
purchased Initial current
yield (%) 30 10 Initial Price
(price of bond
when you
purchased it this
year)
$10,000 Price Next Year
(one year after
purchase)
$5060 32. One year after purchase, what is your capital gain (or loss) on the bond, in percentage terms? Page 7 of 8 33. What is your overall rate of return on the bond one year after purchase? 34. Consider the following hypothetical U.S. data (in billions of U.S. dollars) for 2009 and 2010.
2009
2010
Currency
950
960
Demand and checkable deposits
1,010
1,059
Traveler’s checks
0
0
Money market mutual funds shares 1,996
2,384
What do the above data suggest was the percentage growth rate from 2009 to 2010 of the M1
definition of the money supply? Page 8 of 8
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