Deck 7: Interest Rates, the Yield Curve and Monetary Policy

Question 1

The RBA is required to determine its monetary and banking policy so as to:

A) achieve the maintenance of full employment.
B) achieve the stability of the Australian currency.
C) contribute to the economic prosperity and welfare of the people.
D) all of the above.

Answer 1

D

Question 2

In the transmission of monetary policy to the economy, a rise in interest rates will result in:

A) lower household saving.
B) lower business investment.
C) higher inflation.
D) rising asset prices.

Answer 2

B

Question 3

For policy based on monetary aggregates to be successful, which of the following variables needs to remain fairly constant?

A) V
B) P
C) M
D) Y

Answer 3

A

Question 4

M3 is equal to:

A) Currency + Cheque deposits.
B) Currency + Cheque deposits + Bank deposits.
C) Currency + Bank deposits.
D) none of the above.

Question 5

Suppose the central bank increases the money supply. Whether inflation increases as a result will depend on:

A) the yield curve.
B) the media reaction.
C) the degree of capacity utilisation in the economy.
D) the level of the exchange rate.

Question 6

Under a fixed exchange rate regime:

A) money supply remains fixed.
B) purchases of foreign currency by the RBA will withdraw cash from the system.
C) the exchange rate is determined by supply and demand.
D) the authorities have little control over their transactions in the foreign exchange market.

Question 7

Which of the following is correct?

A) Changes in the cash rate and longer- term rates affect inflation and the real economy through the transmission mechanism.
B) The change in the cash rate will affect longer- term interest rates (the yield curve) in a way that is determined by changes in market interest rate expectations.
C) The RBA carries out market operations so that the money base (balances in ESAs) is consistent with the cash rate the Bank has set.
D) All of the above.

Question 8

The Fisher Effect says that:

A) the supply of funds always outweighs the demand.
B) the inflation rate increases with the real interest rate.
C) the nominal interest rate increases with the rate of inflation.
D) the income effect outweighs the substitution effect.

Question 9

M1 is equal to:

A) Currency + Cheque deposits + Bank deposits.
B) Currency - Cheque deposits.
C) Currency + Cheque deposits.
D) none of the above.

Question 10

Which of the following theories explains the shape of the yield curve?

A) Expectations theory.
B) Segmented market theory.
C) Liquidity or risk premium.
D) All of the above.

Question 11

The set of channels through which changes in monetary policy instruments affect the economy is known as the:

A) regulatory structure.
B) transmission mechanism.
C) velocity of money.
D) money base.

Question 12

Tobin's q is equal to:

A) S divided by PI.
B) S multiply by PI.
C) PI multiply by S.
D) PI divided by S.

Question 13

A normal yield curve is:

A) downward sloping.
B) flat.
C) upward sloping.
D) none of the above.

Question 14

An important assumption in the application of the Mundell- Fleming model of exchange rates is that:

A) the balance of payments is in deficit.
B) the exchange rate is fixed.
C) a small open economy cannot influence overseas interest rates.
D) prices of short- dated bonds are more sensitive to market yields than long- dated bonds.

Question 15

The statement that 'official transactions were undertaken in the domestic money market to offset effects on liquidity of official transactions in the foreign exchange market' most closely describes:

A) immunisation of the RBA's portfolio.
B) modification of the velocity of money.
C) interest rate targeting.
D) sterilisation of foreign exchange operations.

Question 16

Who sets the overnight rate in the interbank market (the cash rate) in Australia?

A) RBA.
B) The traders in Sydney.
C) The Finance minister.
D) The commercial banks.

Question 17

Which of the following policies can be used to prevent the growth of asset price bubbles?

A) Banks and other lenders can be required to adopt conservative loan- to- valuation ratios (LVRs).
B) The use of 'circuit breakers'.
C) The tax regime could be altered to make speculation in assets less attractive.
D) All of the above'

Question 18

Which of the following is NOT a means by which the RBA can adjust the amount of cash in the financial system each day?

A) Issuing 'repos'.
B) Altering the velocity of money.
C) Selling government bonds.
D) Buying foreign exchange.

Question 19

Which of the following best describes the 'real' interest rate?

A) The rate of return on an investment expressed in monetary terms.
B) The rate of return after deducting tax liability.
C) The effective return after taking into account compounding effects.
D) The return on an investment after the effects of inflation are taken into account.

Question 20

If business investment increases and other factors remain constant, the economy's interest rate will:

A) rise.
B) remain unchanged.
C) fall.
D) It depends on what industry the investment is in.

Question 21

The Fisher Equation demonstrates that in the presence of both inflation and taxes the real after- tax interest rate will always be negative.

Question 22

The cost of changing a monetary policy instrument increases with the size of the change.

Question 23

Under a fixed exchange rate, if there is an excess supply of foreign currency the authorities must sell the excess.

Question 24

The 'announcement effect' of monetary policy refers to:

A) the destabilising effect of the RBA governor announcing his retirement.
B) the media outcry whenever banks announce an increase in interest rates.
C) the impact on expectations resulting from public announcement of changes to the RBA's interest rate target.
D) the fallout in 1997 when the Wallis Inquiry findings were released.

Question 25

By introducing ceilings on bank lending and deposit rates, it promoted interest rate flexibility.

Question 26

In the transmission mechanism, an appreciation of the exchange rate leads to higher exports and lower imports which in turn lifts economic growth.

Question 27

A policy instrument over which the authorities have complete control is:

A) the stock market index.
B) the cash rate.
C) monetary aggregates.
D) the exchange rate.

Question 28

A consumption tax such as the GST falls on expenditure only and therefore should help increase saving.

Question 29

The sector of the economy most likely to demand funds from the capital market rather than supply them is the sector.

A) household
B) corporate
C) government
D) overseas

Question 30

Monetary policy is not the only policy available for tackling asset price bubbles.

Question 31

A university student last year borrowed at a 10% interest rate when inflation was 5%. This year she borrows at 15% and inflation is 10%. Compared with last year, the student is:

A) in a higher tax bracket.
B) better off.
C) worse off.
D) the same.

Question 32

Which of the following is NOT an ultimate target of central banks' monetary policy?

A) Lower unemployment.
B) Lower budget deficit.
C) Higher economic growth.
D) Lower inflation.

Question 33

The date when Australian policymakers started to operate with a medium- term flexible target for inflation was:

A) 1989.
B) 1983.
C) 1993.
D) 1997.

Question 34

The money base is equal to:

A) currency + balances in ESAs + other liabilities of the RBA to the private sector.
B) currency + balances in ESAs.
C) currency + balances in ESAs - other liabilities of the RBA to the private sector.
D) currency - balances in ESAs - other liabilities of the RBA to the private sector.

Question 35

Which options are open to a central bank?

A) Setting interest rates.
B) Setting monetary growth.
C) Setting both interest rates and monetary growth.
D) Setting interest rates or setting monetary growth, but not both.

Question 36

In Australia, business borrowers receive a full tax deduction but individual borrowers receive no deduction.

Question 37

The 'real exchange rate' is defined as:

A) the nominal exchange rate corrected for inflation across two countries.
B) the actual trading rate in the market.
C) the future exchange rate that can be fixed using the forward market.
D) the average exchange rate with many countries weighted according to their share of Australia's trade.

Question 38

If $100 is invested for one year at 8% p.a. and inflation during the same period is 3%, the real value of the investment at the end of the year is:

A) $104.85.
B) $103.00.
C) $104.76.
D) $105.00.

Question 39

Which of the following variables appears in the balance sheet of the RBA?

A) ESA.
B) FX.
C) Australian dollar securities.
D) All of the above.

Question 40

Broad money is equal to:

A) M3 + NBFI deposits - Bank deposits held by NBFIs.
B) M3 - M5.
C) M3 + M1.
D) none of the above.

Question 41

Changes in interest rates also have efficiency and consumer welfare effects.

Question 42

If a university student performs a higher number of transactions each year using the same amount of cash, there has been an increase in her velocity of money.

Question 43

The velocity of money equals the speed with which a change in the cash rate reaches the wider economy via the transmission mechanism.

Question 44

The Hong Kong dollar is pegged to the UK pound sterling.

Question 45

Monetary policy based on monetary aggregates operates first on income (Y), which then impacts on money supply (M), which in turn affects the money base (MB).

Question 46

By removing or easing the 'captive market' requirements on financial institutions which forced them to hold government bonds, it gave the institutions the ability to trade in the securities.

Question 47

An increase in interest rates makes the creation of new assets more attractive.

Question 48

Other things equal, a rise in saving by Australian households will lead to a fall in interest rates.

Question 49

The information on intermediate targets is available later than that for ultimate targets.

Question 50

For monetary policy based on the money stock to succeed, we need the money multiplier to vary significantly in response to policy actions.

Question 51

When the RBA buys bonds from the market, it withdraws liquidity from the system.

Question 52

The main implication for monetary policy of financial deregulation is that it generates structural change in the financial sector and therefore an interest rate target is more appropriate than a money stock target.

Question 53

In the environment of deregulation there is a question mark over the need for active monetary policy.

Question 54

The 'real after- tax' rate of interest is equal to: r - (1- t)P where r is the nominal rate of interest, t is the investor's marginal tax rate and P is the inflation rate.

Question 55

The central bank in Australia is less independent of the central government than is the case in many other countries.

Question 56

Over the period 1985 to 1995, Australia had a 'crawling peg' exchange rate regime.

Question 57

The velocity of money will be unstable if banks make a sharp change in the amount of cash they hold.

Question 58

It is important that the RBA adopt a consistent and transparent approach to monetary policy so that economic agents can form valid expectations.

Question 59

Under a fixed exchange rate regime, the evidence shows that the authorities lose control of domestic monetary conditions.

Question 60

If we have high capital mobility and a fixed exchange rate regime, the authorities can run an independent domestic monetary policy.

Question 61

Over the period 1976 to 1983 Australia had a 'crawling peg' exchange rate regime.

Question 62

Briefly summarise the process of monetary policymaking.

Question 63

Discuss the issues raised by the relationship between the targets of monetary policy and the instruments available to achieve those targets.

Question 64

What are asset price bubbles?

Question 65

Monetary policy is an important tool used by governments to influence economic activity.

Question 66

Assume that a monetary growth target has been set at 6- 8% per annum. If the outcome is 10% money growth, the target has not only been achieved but has been bettered.

Question 67

In order to set the interest rate, the authorities must fix the rate of monetary growth.

Question 68

What is the Fisher Effect?

Question 69

The interest rate is an example of an 'intermediate' policy target.

Question 70

Discuss the transmission mechanism of monetary policy.