Question 1

The nominal rate of interest is the rate of interest that is adjusted for inflation.

Accepted Answer

The nominal rate of interest is the stated rate of interest without any adjustment for inflation. The real interest rate, on the other hand, is the nominal rate adjusted for inflation.

Question 2

The law that prohibited commercial banks from engaging investment banking activities is the Financial Services Modernization Act of 1999.

Accepted Answer

The law that prohibited commercial banks from engaging in investment banking activities is the Glass-Steagall Act of 1933. The Financial Services Modernization Act of 1999, also known as the Gramm-Leach-Bliley Act, repealed certain provisions of the Glass-Steagall Act and allowed commercial banks to engage in investment banking activities.

Question 3

An active secondary market for a security will help to enhance the price of that particular security in the primary market.

Accepted Answer

When a security has an active secondary market, it means there is high liquidity and demand for that security. This, in turn, can increase investor confidence and interest in the security, leading to increased demand and a higher price in the primary market. On the other hand, if there is no active secondary market for a security, it may be considered illiquid and less attractive to investors, potentially leading to a lower price in the primary market.

Question 4

Governments are the principal lender-savers in the economy.

Accepted Answer

Governments are typically borrowers in the economy, financing public expenditures through issuing debt, rather than being the principal savers or lenders.

Question 5

Real rates of interest are perfectly observable in the financial markets.

Accepted Answer

Real rates of interest are not directly observable because they are calculated by adjusting the nominal interest rates for inflation, which is a forecasted or estimated value, not a directly observable market figure.

Question 6

The role of the financial system is to gather money from people, businesses and government that have funds to invest and to channel that money to those who need it.

Accepted Answer

The statement accurately describes the role of the financial system.

Question 7

A primary market is any financial market in which owners of outstanding securities can resell them to other investors.

Accepted Answer

A primary market is where securities are initially issued and sold to the public for the first time, not where owners of outstanding securities can resell them to other investors. The correct term for the latter is a secondary market.

Question 8

The term money market reflects the idea that the instruments traded in the money market are highly marketable and easily converted into cash.

Accepted Answer

The term "money market" refers to a market where short-term financial instruments are traded, and these instruments are considered highly liquid and easily convertible into cash. Therefore, the statement is true.

Question 9

Direct financial markets could be broadly labeled as wholesale markets for funding.

Accepted Answer

Direct financial markets primarily serve large-scale borrowers and investors, such as corporations and institutional investors, and are therefore considered wholesale markets for funding.

Question 10

The downside to a private placement transaction is that, it does not require the fees and expenses associated with an SEC registration.

Accepted Answer

The statement is incorrect. The downside to a private placement transaction is that it does not offer the same level of transparency and regulatory protection as an SEC-registered offering, not that it avoids fees and expenses. In fact, private placement transactions may still come with fees and expenses for legal and other services.

Question 11

A privately held corporation who borrows from a regional commercial bank is an example of a direct market transaction.

Accepted Answer

A regional commercial bank is an intermediary and the transaction would be considered indirect, not direct.

Question 12

Today, major money center banks in U.S have been allowed back to provide investment banking services.

Accepted Answer

This statement is true. In 1999, the Glass-Steagall Act was repealed, allowing commercial banks to offer investment banking services once again.

Question 13

The financial system is nothing more than a collection of financial markets.

Accepted Answer

The financial system is not just a collection of financial markets but also includes financial institutions, regulators, and intermediaries. These components work together to facilitate the flow of capital in a country's economy.

Question 14

Without a financial market, purchasing a house would require a cash purchase.

Accepted Answer

Without a financial market, there would be no option for taking out a mortgage or other types of loans to purchase a house, making a cash purchase the only possible option.

Question 15

Business finance companies obtain the majority of their funds by selling equity.

Accepted Answer

Business finance companies typically obtain most of their funds through debt financing, such as issuing bonds or taking out loans, rather than selling equity.

Question 16

Equities with maturity of greater than one year generally are traded in the capital market.

Accepted Answer

Equities with maturities of greater than one year, such as common stocks and preferred stocks, are typically traded in the capital market where long-term securities are bought and sold.

Question 17

Most companies use indirect market funding from financial institutions to obtain financing.

Accepted Answer

Most companies use indirect market funding from financial institutions such as banks, investment firms, and insurance companies to obtain financing for their business operations. This method of financing allows companies to access a larger pool of funds than they may be able to raise through direct market funding, such as selling equity or debt securities to individual investors.

Question 18

Most securities sales on the New York Stock Exchange are secondary market transactions.

Accepted Answer

Most securities sold on the NYSE are already in existence and being traded between investors, making them secondary market transactions. Primary market transactions involve the initial sale of securities by the issuing company, which is a less frequent occurrence on the NYSE.

Question 19

Brokers are market specialists who do not bear the risk of owning securities.

Accepted Answer

Brokers do not own securities but rather facilitate transactions between buyers and sellers in the market. They earn a commission or fee for their services. Therefore, they do not bear the risk of owning securities.

Question 20

Businesses are the principal borrower-spenders in the economy.

Accepted Answer

Businesses often rely on borrowing to finance their operations and investments, and then spend the borrowed funds on various expenses, such as salaries, equipment, inventory, marketing, and so on. As such, they are major drivers of economic activity and employment, and their borrowing and spending patterns can have significant effects on interest rates, inflation, and overall growth.

Quiz 2: The Financial System and the Level of Interest Rates