Question 1

Ordinarily the Fed lends money only to banks, but during the Great Recession of 2007-2009 the Fed extended its lender-of-last-resort role to other financial institutions. These institutions included

Accepted Answer

During the Great Recession of 2007-2009, the Federal Reserve expanded its traditional role of lending only to banks by also providing financial assistance to a broader range of institutions, including securities dealers, investment banks, and high-quality corporations, to stabilize the financial system.

Question 2

If people accurately speculate that a run on one bank will result in a run on all banks, the financial system would experience what is known as a

Accepted Answer

A bank panic occurs when a large number of customers withdraw their deposits simultaneously due to fears that the bank will become insolvent. When people speculate that a run on one bank will lead to runs on other banks, it can trigger a widespread panic, leading to a systemic crisis in the financial system.

Question 3

The four distinct tools of policy used by the Fed to influence the money supply are

Accepted Answer

The Federal Reserve uses four main tools to influence the money supply: open market operations (buying and selling government securities), discount policy (setting the discount rate at which banks can borrow from the Fed), reserve requirement policy (setting the percentage of deposits that banks must hold in reserve), and adjusting interest on reserves (paying interest on the reserves banks hold at the Fed). These tools help the Fed control the amount of money circulating in the economy.

Question 4

If a bank receives a $5 million discount loan from the Fed, then the bank's reserves will

Accepted Answer

When a bank receives a $5 million discount loan from the Federal Reserve, its reserves increase by the exact amount of the loan, which in this case is $5 million.

Question 5

Suppose a bank has $10 million in deposits with no excess reserves, and the reserve requirement is 25%. If the Fed reduces the reserve requirement to 20%, the bank will now have excess reserves of

Accepted Answer

With a reserve requirement of 25%, the bank must hold $2.5 million (25% of $10 million) in reserves. If the reserve requirement is reduced to 20%, the required reserves become $2 million (20% of $10 million). The difference between the initial required reserves ($2.5 million) and the new required reserves ($2 million) is $0.5 million, which becomes the bank's excess reserves.

Question 6

Suppose a bank has $10 million in deposits with no excess reserves, and the reserve requirement is 20%. If the Fed reduces the reserve requirement to 5%, the bank can make a maximum loan of

Accepted Answer

Initially, with a 20% reserve requirement on $10 million in deposits, the bank must hold $2 million (20% of $10 million) in reserves. If the reserve requirement is reduced to 5%, the bank now needs to hold only $0.5 million (5% of $10 million) in reserves. This reduction in the reserve requirement frees up $1.5 million ($2 million - $0.5 million) that the bank can now lend out.

Question 7

If the Fed conducts an open market purchase of Treasury bonds, this will

Accepted Answer

When the Fed conducts an open market purchase of Treasury bonds, it buys bonds from banks, which increases the banks' reserves. With more reserves, banks are encouraged to make more loans, which increases the money supply.

Question 8

To increase the money supply, the Federal Reserve could

Accepted Answer

Lowering the interest it pays on reserves encourages banks to lend more instead of holding funds at the Federal Reserve, thereby increasing the money supply.

Question 9

To decrease the money supply, the Federal Reserve could

Accepted Answer

To decrease the money supply, the Federal Reserve can sell government securities in the open market. This action removes money from the banking system, as the purchasers of these securities pay the Fed, which effectively reduces the amount of money circulating in the economy.

Question 10

Required reserves are the portion of deposits banks are required to hold and not lend to customers.

Accepted Answer

Required reserves are indeed the portion of deposits that banks are mandated by central banking authorities to hold in reserve and are not allowed to lend out to customers. This is to ensure that banks have enough liquidity to meet withdrawal demands.

Question 11

An insolvent bank is one that owes more money to its depositors than it has in cash, loans, and other assets.

Accepted Answer

An insolvent bank is indeed one that cannot cover its liabilities with its assets, meaning it owes more to its depositors and other creditors than the value of its cash, loans, and other assets.

Question 12

A bank panic refers to a situation where banks are afraid they will not have enough customers to borrow all their excess reserves.

Accepted Answer

A bank panic refers to a situation where a large number of bank customers withdraw their deposits simultaneously due to fears that the bank will become insolvent.

Question 13

The Federal reserve can increase the money supply by lowering the reserve requirement or raising the discount rate.

Accepted Answer

The Federal Reserve can increase the money supply by lowering the reserve requirement or lowering the discount rate, not raising it. Lowering the discount rate makes it cheaper for banks to borrow money, encouraging lending and increasing the money supply.

Question 14

When the Fed makes an open market purchase of government bonds, it does so with the intention of decreasing the money supply.

Accepted Answer

An open market purchase of government bonds by the Fed increases the money supply by injecting more money into the banking system, encouraging lending and economic activity.

Question 15

A group of banks that agree to lend one another money in case of unexpectedly large withdrawals is a ________.

Accepted Answer

The answer of A group of banks that agree to...

Question 16

What does it mean when the Federal Reserve is referred to as a lender of last resort?

Accepted Answer

The answer of What does it mean when the Federal...

Question 17

Describe the four distinct tools of policy that the Federal Reserve can use to influence the money supply. How would the Fed use each of these tools to either increase or decrease the money supply?

Accepted Answer

The answer of Describe the four distinct tools of policy...

Question 18

The Fed can attempt to increase the federal funds rate by

Accepted Answer

When the Federal Reserve sells government bonds, it takes money out of circulation, which decreases the money supply. A reduced money supply tends to increase interest rates, including the federal funds rate.

Question 19

The Fed can attempt to decrease the federal funds rate by

Accepted Answer

Lowering the reserve requirement increases the amount of money banks can lend out, effectively increasing the money supply and potentially decreasing the federal funds rate.

Question 20

A decrease in interest rates

Accepted Answer

A decrease in interest rates reduces the cost of borrowing, which encourages both businesses to invest more in machinery, equipment, and factories, and consumers to spend more on durable goods like cars and appliances.

Quiz 19: The Federal Reserve: Monetary Policy, Economic Activity, and Inflation