Chapter 10 Money, Banking & Financial Markets
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1
What is investment closely associated with?
Using funds to acquire financial assets or productive assets
2
What is saving closely associated with?
Putting funds into accounts or financial assets rather than consuming them
3
What does the financial sector include?
The banking system and financial markets
4
What does the financial sector facilitate?
Trade, specialization, saving, and investment
5
What market determines long-term interest rates?
The loanable funds market
6
What is money’s primary function?
It serves as a medium of exchange
7
What is the historical order of money systems?
Barter, commodity money, hard money, fiat money
8
What is commodity money?
Money that has value as a commodity itself
9
What is hard money?
Money that can be redeemed for a fixed amount of a commodity, such as gold
10
If a dollar can be exchanged for a fixed amount of gold, what type of money is it?
Hard money
11
What is fiat money?
Money that has value because the government declares it legal tender and people accept it
12
What does issuing hard money mean?
Issuing notes that are redeemable for a specified amount of a commodity
13
What is fractional reserve banking?
A banking system in which banks keep only a fraction of deposits as reserves
14
What is the reserve ratio?
The fraction of deposits that a bank must keep as reserves
15
How is the reserve ratio calculated?
Reserve ratio = required reserves ÷ deposits
16
If a bank has \$20 million in gold and issues \$100 million in redeemable notes, what is the reserve ratio?
20%
17
What are funds in a checking account considered?
An asset, a medium of exchange, and part of M1
18
What are typical bank assets?
Reserves and loans to customers
19
What do rich nations typically have?
A lot of capital and specialization with trade
20
What is M1?
A measure of the money supply that includes checking account deposits and other highly liquid money
21
What is M2?
M1 plus certain less-liquid assets such as savings deposits and small time deposits
22
What is the Money Multiplier formula?
Money multiplier = 1 ÷ reserve ratio
23
How do you calculate the maximum change in the money supply?
Initial deposit × money multiplier
24
If the reserve ratio is 10%, what is the money multiplier?
10
25
If the reserve ratio is 20%, what is the money multiplier?
5
26
If the reserve ratio is 100%, what is the money multiplier?
1
27
If the reserve ratio is 10% and the initial deposit is \$20,000, how much can the money supply increase?
\$200,000
28
If the reserve ratio is 100% and the initial deposit is \$1,000, how much can the money supply increase?
\$1,000
29
How much can a bank loan from a \$10 million deposit with a 10% reserve ratio?
\$9 million
30
How do you calculate required reserves?
Deposits × reserve ratio
31
How do you calculate maximum loans?
Deposits − required reserves
32
Who is the lender when you purchase a bond?
The person who purchases the bond
33
Who is the borrower when a company issues a bond?
The company issuing the bond
34
How does a bond’s price respond when market interest rates rise?
The bond’s price decreases
35
How does a bond’s price respond when market interest rates fall?
The bond’s price increases
36
How do you calculate a bond’s annual coupon payment?
Face value × coupon rate
37
If a \$100,000 bond has a 5% coupon rate, what is its annual coupon payment?
\$5,000
38
What happens to a 5% bond when similar bonds begin offering 10%?
Its market price decreases
39
What is the basic present value formula for a bond?
PV = coupon payments discounted + face value discounted
40
Why does a bond sell for less than face value when its coupon rate is below the market rate?
Investors require a lower price to earn the market rate
41
What was the approximate value of the \$100,000 bond in the problem when market rates rose to 10%?
\$87,566
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