Answers to Practice Questions #7

Money and Banking

Fall 2000

1. An increase in the excess reserve ratio will cause an increase in the interest rates for Loans. TRUE

2. An increase in the required reserve ratio will cause an increase in the funds available to loan out. FALSE

3. An increase in the required reserve ratio will cause an increase in the aggregate demand. FALSE

4. An increase in the required reserve ratio will cause an increase in the level of prices. FALSE

5. If there is an increase in the monetary base and at the same time there is an increase in the {C/D} ratio there will be a decrease in the aggregate demand. UNCERTAIN

6. An increase in the {C/D} ratio will lower aggregate demand and increase the level of income and prices. TRUE (first statement) FALSE (second and third)

7. An increase in the public sector deficit financed with public debt will cause a decrease in the level of excess reserves maintained by the financial institutions and therefore a decrease in the Money Supply. FALSE

8. An increase in the public sector expenditure, ceteris paribus, will cause an increase in the deficit of the public sector of an equal magnitude. UNCERTAIN

9. The public sector budget is an automatic stabilizer because provided the public sector expenditure remains constant, it changes with the business cycle, with deficits when there is an economic expansion and surpluses when there is an economic contraction. FALSE (reverse is true)

10. If there is an increase in the required reserve ratio, a sell-OMO and a decrease in the {C/D} ratio, it is likely that the economy will enter into a recession. UNCERTAIN (first two factors go in that direction the third one in the opposite direction).

11. A budget deficit financed with bonds will cause an increase in the economic activity. UNCERTAIN. TRUE in the Keynesian model.

12. A budget deficit financed with taxes will have no effect on the economic activity. UNCERTAIN. TRUE in the Classical model.

13. A budget deficit financed with taxes will have no effect on the level of prices. UNCERTAIN (depends on the model analyzed)

14. The rate of unemployment will remain constant if there is a sudden increase in the {C/D} ratio. FALSE

15. The unemployment rate and the rate of inflation are always negatively correlated. FALSE.

16. The Federal Reserve has the power to control at the same time the quantity of monetary base and the interest rate on discount loans to the financial institutions, so economic theory is wrong, since as the monopolist of monetary base the Federal Reserve can control at the same time quantity and prices. FALSE.

17. Taxes are a stock because they are a liability. FALSE.

18. Government expenditure is a stock variable. FALSE.

19. Inventories maintained by firms are a stock variable. TRUE.

20. Changes in inventories are a stock variable. FALSE.

21. Private Savings plus Public Savings (in a closed economy) can be different from zero. FALSE.

22. In a closed economy an increase in the public sector deficit implies that the private sector is demanding more bonds. UNCERTAIN.