Deck 12: Investment and Financial Markets

Question 1

Which of the following is not a financial intermediary?

A) district bank of the Federal Reserve System
B) life insurance company
C) savings and loan association
D) commercial bank

Answer 1

district bank of the Federal Reserve System

Question 2

The theory that considers real interest rates and taxes as the important determinants of investment spending is the:

A) Q- theory of investment.
B) classical theory of investment.
C) neoclassical theory of investment.
D) Keynesian theory of investment.

Answer 2

neoclassical theory of investment.

Question 3

During the U.S. savings and loan crisis in the 1980s, depositors were saved at the expense of taxpayers because:

A) taxpayers had to foot the bill of bailing out the the S&Ls.
B) the depositors were the tax payers anyway.
C) the depositors were required to pay higher taxes on their deposit incomes.
D) taxpayers were required to keep their accounts with the S&L's.

Answer 3

taxpayers had to foot the bill of bailing out the the S&Ls.

Question 4

According to the neoclassical theory of investment, which of the following is not the important determinant of investment?

A) nominal interest rates
B) real interest rates
C) taxes
D) All of the above are correct answers.

Question 5

When 7 of the 8 largest Japanese mortgage lenders in 1995 had gone bankrupt , the response of the Japanese government was:

A) to bail out all the 7 bankrupt mortgage lenders.
B) to bail out the 3 largest mortgage lenders.
C) not to bail out any of the mortgage lenders.
D) to bail out 5 of the largest mortgage lenders.

Question 6

Economists have long noticed that when the level of the stock market is _______ , other things being equal, investment spending tends to be _______ .

A) low; low
B) low; high
C) high; low
D) none of the above

Question 7

According to Keynes, the wild swings in investment spending are caused by

A) irrational behavior called "animal spirits."
B) the multiplier- accelerator model.
C) wild swings in the interest rates.
D) government fiscal policy.

Question 8

Recall Application 3, "Underwater Homes: Bets Gone Wrong" to answer the following questions:
According to the application, a home is underwater when:

A) the value of the mortgage is greater than the value of the income of the homeowner.
B) the value of the home is greater than the value of the mortgage.
C) the income of the homeowner is zero.
D) the value of the home is less than the value of the mortgage.

Question 9

The present value of a payment to be received in the future is lower than the nominal value of that payment in the future as long as:

A) the real GDP growth rate is positive.
B) banks are losing money on investments.
C) inflation is negative.
D) the interest rate is positive.

Question 10

The nominal interest rate tells you:

A) how fast the purchasing power of your bank account increases over time.
B) the number of dollars in your bank account.
C) how fast the number of dollars in your bank account increases over time.
D) the purchasing power of your bank account.

Question 11

Figure 12.1
Refer to Figure 12.1. Suppose the economy is currently at Point A. If interest rates decrease, the economy moves to Point:

A) E.
B) C.
C) B.
D) The economy stays at Point A.

Question 12

The nominal interest rate is:

A) the real rate of return to the lender.
B) the real cost of borrowing to the borrower.
C) the interest rate as quoted in the market.
D) all of the above

Question 13

When using the formula PV = K/(1+i)^t to calculate the present value of a future payment, a higher K implies:

A) a lower interest rate.
B) a higher interest rate.
C) a higher present value.
D) a lower present value.

Question 14

The boom period of the late 1990s was a good example of:

A) the irrationality of long- term investments when share prices are not high enough.
B) the depressing effect on share prices of low expectations about future dividends.
C) the Q- theory of investment at work.
D) the impact that low interest rates have of investment expenditure.

Question 15

A firm sells a corporate bond to:

A) its parent corporation in order to borrow money.
B) the public in order to borrow money.
C) the government in order to borrow money.
D) another corporation, in order to share profits.

Question 16

Recall Application 3, "Underwater Homes: Bets Gone Wrong" to answer the following questions:
According to the application, which states had the highest proportion of underwater homes?

A) Alaska, New York, California and Texas
B) Massachusetts, California, Florida and Arizona
C) Nevada, California, Florida and Arizona
D) Mississippi, Nevada, Florida and Arizona

Question 17

Lacey buys a bond issued by XYZ Corporation. XYZ Corporation uses the funds from the sale of its bonds to build a new factory. Which of the following statements is correct?

A) From what you learned in Chapter 12, Lacey is investing while XYZ Corporation is not.
B) From what you learned in Chapter 12, neither Lacey nor XYZ Corporation is investing.
C) From what you learned in Chapter 12, both Lacey and XYZ Corporation are investing.
D) From what you learned in Chapter 12, XYZ Corporation is investing while Lacey is not.

Question 18

If Andrew is paid an interest rate of 10% on his savings, but the inflation rate is 20%, the real interest rate is:

A) 20%.
B) - 10%.
C) - 20%.
D) 10%.

Question 19

Figure 12.2
Refer to Figure 12.2 to answer the question. Which of the following components of GDP most closely resembles Series A (procyclical)?

A) investment
B) budget deficit
C) autonomous consumption
D) government spending

Question 20

If you go to the bank for a loan, and you were quoted an interest rate equal to 7 percent per year, that interest rate is:

A) the net interest rate.
B) the nominal interest rate.
C) the real interest rate.
D) the present discounted interest rate.

Question 21

The real interest rate is:

A) the interest rate quoted in financial markets.
B) the nominal interest rate adjusted for the effects of inflation.
C) both of the above
D) none of the above

Question 22

Recall Application 1, "Energy Price Uncertainty Reduces Investment Spending," to answer the following questions:
The application cited the decrease in oil prices from per barrel in 2008 to a year later as an example of the uncertainty in energy prices that energy producers face.

A) $100; $90
B) $120; $70
C) $200; $34
D) $145; $50

Question 23

A "bank run" occurs when panicky depositors simultaneously:

A) withdraw their funds in order to invest in Treasury bills.
B) deposit their funds in a bank offering high deposit interest rates.
C) withdraw their funds from a bank they believe will fail.
D) chase a bank owner who has fled the country.

Question 24

Which of the following is generally procyclical?

A) investment
B) consumption expenditures
C) interest rates
D) All of the above are procyclical.

Question 25

If the price of a stock equals the present value of expected future dividend payments, then the price of the firm's stock would be expected to decrease when:

A) competition increases.
B) the government intends to increase the tax collected from the firm.
C) firm predicts lower profits in the future.
D) All of the above can cause the price to decrease.

Question 26

When using the formula PV = K/(1+i)^t to calculate the present value of a future payment, t represents:

A) the real interest rate.
B) the nominal interest rate.
C) the number of periods in the future that the future payment is received.
D) the present value.

Question 27

Which of the following is an investment (broadly defined)?

A) a purchase of ownership of a company
B) purchase of capital equipment
C) education
D) All of the above are investments.

Question 28

Which of the following assets is the least liquid?

A) checking accounts
B) stocks
C) real estate
D) currency

Question 29

Bill wants to borrow $100 from John. John wants to make 6% real return on his money, so they both agree on a 6% interest rate paid next year. Neither anticipate the actual - 2% inflation rate next year. In this case:

A) Bill will pay 6% in nominal interest rate.
B) Bill will pay 8% in real interest rate.
C) John is better off.
D) all of the above

Question 30

With a higher interest rate, the opportunity cost of keeping your money as cash is:

A) lower.
B) higher.
C) the same, because cash earns no interest.
D) none of the above, it depends on the amount of money and on the amount of years.

Question 31

Because investment is generally procyclical, it usually _______ when the economy _______.

A) decreases; is in an expansion
B) decreases; is in a recession
C) reaches its peak; in a recession
D) increases; in a recession

Question 32

Which of the following increases the real interest rate?

A) an increase in both the nominal interest rate and the inflation rate by the same percentage points
B) a decrease in the inflation rate, holding the nominal interest rate constant
C) a decrease in the nominal interest rate, holding the inflation rate constant
D) a decrease in both the nominal interest rate and the inflation rate by the same percentage points

Question 33

The investment rule states that you should invest in a project as long as:

A) the future payments for the project is less than or equal to the present value of the cost you incur today.
B) the inflation rate is lower than the real interest rate.
C) the economic cost you incur today is less than or equal to the present value of the future payments for the project.
D) the real interest rate is higher than the nominal interest rate.

Question 34

A rise in the interest rate:

A) increases firms' desires to invest.
B) decreases the opportunity cost of investing.
C) increases the opportunity cost of investing.
D) none of the above

Question 35

Figure 12.1
Refer to Figure 12.1. Which of the following causes a movement from Point A to Point B?

A) an increase in the interest rate
B) positive growth in the GDP
C) a decrease in the interest rate
D) negative growth in the GDP

Question 36

The existence of deposit insurance indirectly led to the U.S. savings and loan crisis in the 1980s because it:

A) allowed the S & L banks to invest in treasury bills and bonds.
B) allowed the S & L banks to invest in real estate and other risky projects.
C) prevented the S & L banks to invest in real estate and other risky projects.
D) prevented the S & L banks to invest in treasury bills and bonds.

Question 37

If Andrew is paid an interest rate of 10% on his savings account, but the inflation rate is 20%, the real (effective) value of his savings account is

A) constant.
B) dropping.
C) rising, but by less than 20 percent.
D) rising.

Question 38

If the nominal interest rate is 5 percent and the rate of inflation is 1 percent, then the real interest rate is:

A) 5 percent.
B) 6 percent.
C) 5.5 percent.
D) 4 percent.

Question 39

The accelerator theory describes the impact of:

A) a change in future GDP on investment.
B) a change in government spending on future GDP.
C) a change in planned aggregate expenditures on future GDP.
D) a change in investment on future GDP.

Question 40

Recall Application 1, "Energy Price Uncertainty Reduces Investment Spending," to answer the following questions:
According to the application, high energy prices may encourage investment spending in:

A) energy reduction ad campaigns.
B) energy saving technology.
C) low calorie energy drinks.
D) worker training.

Question 41

Recall Application 3, "Underwater Homes: Bets Gone Wrong" to answer the following questions:
According to the application, more homes underwater were found in states where:

A) the housing boom was the strongest.
B) the average income of the homeowners is the lowest.
C) the age of the homeowners is the lowest.
D) the unemployment rates were the highest.

Question 42

Paradoxically, the existence of deposit insurance:

A) reduces the risk to investors but increases the risks to depositors.
B) reduces the risk to depositors but increases the risks to investors.
C) reduces the risk to depositors but are indirectly linked to the failure of some financial institutions.
D) reduces the financial institutions' probability of failure but also increases the probability of bank runs.

Question 43

The present value of a given payment in the future _______ as the interest rate _______.

A) remains the same; increases
B) increases; decreases
C) decreases; decreases
D) increases; increases

Question 44

Generally speaking, investment _______ when real GDP _______.

A) decreases; increases
B) increases; decreases
C) increases; increases
D) does not change; increases or decreases

Question 45

Which of the following assets is the most liquid?

A) real estate
B) checking accounts
C) stocks
D) currency

Question 46

In response to the troubles in the U.S. financial system in 2008, Congress authorized a bailout package of about _______ to shore up the financial sector.

A) $900 billion
B) $2 trillion
C) $700 billion
D) $350 billion

Question 47

Recall Application 2, "Options for a Lottery Winner," to answer the following questions:
According to the application, if the nominal interest rate were 12 percent, a winner of a $20 million lottery with equal payments for 20 years:

A) should definitely $20 million 20 years from now.
B) should take the option for 20 equal payments over 20 years.
C) should only take half of the winnings today.
D) should definitely take $10 million today.

Question 48

Which of the following lists assets from the most to the least liquid?

A) fine art, currency, checking accounts
B) currency, fine art, checking accounts
C) currency, checking accounts, fine art
D) fine art, checking accounts, currency

Question 49

If K = $200, t = 30 years, i = 5%, the present value (PV) of a payment to be received in 30 years is:

A) $46.27.
B) $190.48.
C) $864.39.
D) none of the above

Question 50

Deposit insurance guarantees that the federal government will reimburse depositors up to _______ in each account in each bank should the banks fail.

A) $100,000
B) $25,000
C) $250,000
D) $1,000,000

Question 51

If Andrew is paid an interest rate of 10% on his savings account, but the inflation rate is 20%, the nominal value of his savings account is

A) rising by the value of the inflation rate.
B) dropping.
C) constant.
D) rising.

Question 52

The accelerator theory is a theory of investment that states that current investment spending depends:

A) positively on last years growth in real GDP.
B) positively on the expected future growth of real GDP.
C) positively on the investment levels last period.
D) negatively on the expected future growth of real GDP.

Question 53

The level of the stock market and the level of investment spending tend to be related because the higher the share price is:

A) the higher the retained earnings are going to be.
B) the higher the present value of any given future payment.
C) the cheaper it would be to sell corporate bonds.
D) the more capital can be raised by issuing new stock.

Question 54

When interest rates are _______, the opportunity cost of holding outside banks is _______.

A) high; cash; high
B) high; stocks and bonds; low
C) low; stocks and bonds; high
D) low; cash; high

Question 55

According to the application, the reason why the problem caused by subprime loans came to light was because:

A) the housing boom ended.
B) the economy was in a recession and the Fed lowered the interest rates further.
C) the Federal Reserve put an end to it.
D) investors realized the risks before it was too late.

Question 56

During the 1970s homeowners in California borrowed money at 10 percent interest rates per year. If housing prices were growing at 12 percent per year, then their real investments would grow by:

A) 12 percent per year.
B) - 22 percent per year.
C) 2 percent per year.
D) 22 percent per year.

Question 57

The Q- theory of investment:

A) was developed by John Maynard Keynes.
B) suggests that taxes and the real interest rate are the most important determinants of investment spending.
C) says that an increase in real interest rates will cause an increase in investment.
D) links investment spending to stock prices.

Question 58

Financial intermediaries have more expertise than individual investors in:

A) evaluating investment projects.
B) negotiating the terms of loans to be made to investors.
C) monitoring investment projects.
D) all of the above

Question 59

Of the 4 components of GDP, which one is most volatile?

A) Consumption Expenditures
B) Government Purchases
C) Net Exports
D) Investment Expenditures

Question 60

According to the accelerator theory of investment, a decrease in the expected future growth rate of real GDP will cause:

A) current investment spending to increase.
B) future investment spending to decrease.
C) future investment spending to increase.
D) current investment spending to decrease.

Question 61

If an investment projects offers to pay $200 in year 1 and $200 in year 2, and the interest rate is 5%, the investment rule states that you should invest in the project as long as the cost is less than:

A) $186.
B) $371.9.
C) $410.
D) none of the above

Question 62

The nominal interest rate is always _______ than the real interest rate when inflation is positive.

A) greater
B) less
C) equal
D) equal or less

Question 63

Recall Application 4, "Securitization: the Good, the Bad, and the Ugly," to answer the following questions:
According to the application, "subprime" loans are loans that are:

A) low risk bonds sold to homeowners to finance their mortgages.
B) offered below prime interest rates.
C) offered to borrowers who would not qualify for loans using traditional criteria.
D) sold to the U.S. Treasury.

Question 64

Recall Application 4, "Securitization: the Good, the Bad, and the Ugly," to answer the following questions:
According to the application, the reason why investors were lured into purchasing securities comprised of "subprime" loans was that:

A) the risks were low even if the real estate market headed south.
B) the securities were so new that investors did not completely understand the risks.
C) the subprime loans were FDIC insured.
D) All of the above are correct.

Question 65

The existence of deposit insurance can prevent a bank run because:

A) the depositors with accounts greater than $1,000,000 are guaranteed to get their deposits in case the bank fails.
B) the depositors with accounts less than $1,000,000 are guaranteed to get their deposits in case the bank fails.
C) the depositors with accounts less than $100,000 are guaranteed to get their deposits in case the bank fails.
D) the depositors with accounts greater than $100,000 are guaranteed to get their deposits in case the bank fails.

Question 66

Which of the following is generally not procyclical?

A) investment
B) interest rates
C) unemployment
D) consumption expenditures

Question 67

Recall Application 3, "Underwater Homes: Bets Gone Wrong" to answer the following questions:
According to the application, in which state are the underwater homes most prevalent?

A) Alaska
B) Nevada
C) Mississippi
D) Massachusetts

Question 68

When using the formula PV = K/(1+i)^t to calculate the present value of a future payment, a higher i implies:

A) a higher future value.
B) a lower future value.
C) a higher present value.
D) a lower present value.

Question 69

Recall Application 2, "Options for a Lottery Winner," to answer the following questions:
According to the application, the best way to determine whether a lottery winner should take the lumpsum value or the annual payments is by calculating

A) the present value of the annual payments and comparing it with the lumpsum value.
B) the present value of the lumpsum and comparing it with the annual payments.
C) the present value of the annual payments and comparing it to zero.
D) the present value of the lumpsum and comparing it to zero.

Question 70

Recall Application 4, "Securitization: the Good, the Bad, and the Ugly," to answer the following questions:
According to the Application, most of the economy's financial woes can be traced back to a new innovation called:

A) open market operations.
B) Fannie Mae.
C) Freddie Mac.
D) securitization.

Question 71

Bank runs occur when:

A) the government runs away with the bank's money.
B) depositors simultaneously withdraw large amounts of deposits from banks.
C) the owners of the bank run away with depositors' money.
D) the government withdraws large amounts of deposits from banks simultaneously.

Question 72

The formula to calculate the present value of a future payment is:

A) PV = K/(K- t)ⁱ.
B) PV = K/(1+i)^t.
C) PV = K/(1+i)^k.
D) PV = K/(K- i)^t.

Question 73

Recall Application 1, "Energy Price Uncertainty Reduces Investment Spending," to answer the following questions:
According to the application, uncertainty in future oil prices usually cause firms to

A) hasten investments to take advantage of low energy prices.
B) increase investment in oil exploration.
C) never make investment choices in the energy sector.
D) delay investment until uncertainty is removed.

Question 74

The nominal interest rate is:

A) unadjusted for the effects of inflation.
B) the interest rate quoted in financial markets.
C) both of the above
D) none of the above

Question 75

Recall Application 2, "Options for a Lottery Winner," to answer the following questions:
The present value of annual payments depends primarily on the

A) lumpsum value.
B) the number of annual payments received.
C) interest rate.
D) both B and C are correct.

Question 76

If the inflation rate is smaller than the nominal interest rate, the real interest rate is:

A) negative.
B) positive.
C) zero.
D) either positive or zero.

Question 77

Which of the following is a way in which a firm can add to its capital stock?

A) purchasing raw materials
B) building a new plant and equipment
C) expanding its labor force
D) unplanned inventory depletion

Question 78

Recall Application 2, "Options for a Lottery Winner," to answer the following questions:
According to the application, with any interest rate higher than _______ percent, it is better to choose the lumpsum payment over 20 annual payments.

A) 8
B) 10
C) 9
D) 7

Question 79

You want to make a 5% real return on a loan that you are planning to make, and the expected inflation rate during the period of the loan is 6%. You should charge a nominal interest rate of:

A) 7%.
B) 11%.
C) - 1%.
D) 1%.

Question 80

According to the neoclassical theory of investment, the important determinant of investment spending is:

A) taxes and the real interest rate.
B) government spending.
C) nominal interest rates and taxes.
D) the business climate.