Seminar №9

SEMINAR №9
Subject code: FIN122
Topic: “Conduct of Monetary Policy”
I. TRUE/FALSE QUESTIONS
# Question True False
1 Open market purchases by the Fed cause the federal funds rate to rise
2 Price stability is defined by central bankers as low and stable inflation.
In the short run, price stability often conflicts with the goals of high
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employment and interest-rate stability.
When workers voluntarily leave work while they look for better jobs, the
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resulting unemployment is called frictional unemployment.
During the Global Financial Crisis of 2007-2009, conventional monetary
5 policy actions proved sufficient to heal the U.S. financial markets and
contain the financial crisis.
6 Quantitative easing and credit easing are essentially the same thing.
A discount loan by the Fed leads to an expansion of reserves, which can be
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lent out, thereby leading to an expansion of liquidity in the banking system.
The European Central Bank does imposes reserve requirement on its
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member banks.
9 Inflation targeting makes the central bank less accountable.
An important lesson from the global financial crisis is that central banks
and other regulators should have a laissez-faire attitude and let credit-
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driven bubbles proceed without any reaction. Intervention is always a
mistake.

II. BASIC QUESTIONS

1. “Unemployment is a bad thing, and the government should make every effort to eliminate it.” Do you
agree or disagree? Explain your answer.

2. “If the demand for reserves did not fluctuate, the Fed could pursue both a nonborrowed reserves target
and an interest-rate target at the same time.” Is this statement true, false, or uncertain? Explain your
answer.

3. Which goals of the Fed frequently conflict?

4. If the Fed has an interest-rate target, why will an increase in the demand for reserves lead to a rise in the
money supply?

5. What are the advantages and disadvantages of quantitative easing as an alternative to conventional
monetary policy when short-term interest rates are at the zero-lower-bound?

6. What are the main advantage and the main disadvantage of an unconditional policy commitment?

7. What methods have inflation-targeting central banks used to increase communication with the public and
increase the transparency of monetary policy making?

8. “Because inflation targeting focuses on achieving the inflation target, it will lead to excessive output
fluctuations.” Is this statement true, false, or uncertain? Explain your answer.

9. If higher inflation is bad, then why might it be more advantageous to have a higher inflation target than a
lower target closer to zero?
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10. Why aren’t most central banks more proactive at trying to use monetary policy to eliminate asset-price
bubbles?

III. MULTIPLE CHOICE QUESTIONS

1. Assets on the Fed's balance sheet include

a. government securities and currency in circulation.
b. discount loans and reserves.
c. government securities and discount loans.
d. currency in circulation and reserves.
2. If the Federal Reserve wants to expand reserves in the banking system, it will
a. purchase government securities.
b. raise the discount rate.
c. sell government securities.
d. raise reserve requirements.
3. A discount loan by the Fed to a bank causes a(n) ________ in reserves in the banking system and
a(n) ________ in the monetary base.
a. increase; decrease
b. decrease; decrease
c. decrease; increase
d. increase; increase
4. The discount rate is
a. the interest rate on loans from the Fed to a bank.
b. the price the Fed pays for government securities.
c. the interest rate on loans of reserves from one bank to another.
d. the price banks pay the Fed for government securities.
5. An open market purchase
a. shifts the demand curve for reserves to the right and causes the federal funds rate to rise.
b. shifts the supply curve for reserves to the left and causes the federal funds rate to rise.
c. shifts the supply curve for reserves to the right and causes the federal funds rate to fall.
d. shifts the demand curve for reserves to the left and causes the federal funds rate to fall.
6. Discount loans to banks experiencing severe liquidity problems are called
a. primary credit.
b. secondary credit.
c. seasonal credit.
d. lender-of-last-resort credit.
7. Which type of open market operation is intended to change the level of reserves?
a. Defensive open market operations
b. Reserve requirements
c. Dynamic open market operations
d. Market equilibrium
8. The Fed is reluctant to use reserve requirements to control the money supply because quickly.
a. of their overly-powerful impact on the money supply.
b. they have the potential to create liquidity problems for banks with low excess reserves.
c. frequent changes in reserve requirements complicate liquidity management for banks.
d. All of the above.
9. Banks' holding of deposits in accounts with the Fed, plus currency that is physically held in banks
are called
a. the monetary base.
b. government securities.
c. open market operations.
d. reserves.
10. Price stability is desirable because
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a. inflation creates uncertainty, making it difficult to plan for the future.
b. everyone is better off when prices are stable.
c. price stability increases the profitability of the Fed.
d. it guarantees full employment.

IV. PROBLEM TEST

1. Consider a bank policy to maintain 12% of deposits as reserves. The bank currently has $10 million in
deposits and holds $400,000 in excess reserves. What is the required reserve on a new deposit of
$50,000?

2. The short-term nominal interest rate is 5% with an expected inflation of 2%. Economists forecast that
next year’s nominal rate will increase by 100 basis points, but inflation will fall to 1.5%. What is the
expected change in real interest rates?

3. If the required reserve ratio is 10%, how much of a new $10,000 deposit can a bank lend? What is the
potential impact on the money supply? Recall from introductory macroeconomics that the money
multiplier = 1/(required reserve ratio).

4. A bank currently holds $150,000 in excess reserves. If the current reserve requirement is 12.5%, how
much could the money supply change? How could this happen?

5. The trading desk at the Federal Reserve sold $100,000,000 in T-bills to the public. If the current reserve
requirement is 8.0%, how much could the money supply change?