KEY
ECO-201 Macroeconomics
Lesson 9 – Financial Markets
Week 7B
Click in the textboxes and answer the following questions.
5 questions @ 4-points
2 MC questions @ 2-points
(giving 1-point to students) = 25 total
Macroeconomics, 2nd Editions
3. For Discussion – page 220
When the price of bonds decreases, the interest rate rises. Explain.
When the price of bonds DECREASES, the purchaser of the bond gives up
LESS money to obtain the promise of a future payment of a fixed sum
When the face value of the bond is paid off, the difference between the face
value and the price paid is greater than would have been the case had the price
been higher, hence, a higher rate of interest.
4. For Discussion – page 220
One journalist writing about the complex interactions between various
markets in the economy stated: “When the government spends more than it
takes in taxes it must sell bonds to finance its excess expenditures. But
selling bonds drives interest rates down and thus stimulates the economy by
encouraging more investment and decreasing the foreign exchange rate,
which helps our export industries.”
Carefully analyze the statement. Do you agree? Why or why not?
Disagree.
The journalist made a fundamental mistake when s/he said ‘but selling bonds
drives interest rates down…’
Quite the opposite; an increase in the supply of bonds drives the price of
bonds DOWN and the interest rate UP.
Page 1 of 3
7. For Discussion – page 220
How would each of the following affect the demand for money?
A. A tax on bonds held by individuals?
INCREASE, because the tax reduces the effective interest return on
bonds.
B. A forecast by the Fed that interest rates will rise sharply in the next
quarter?
INCREASE, because bond prices would be expected to fall.
C. A wave of muggings
People would carry less currency; this MIGHT REDUCE the demand for
money.
The real issue is whether they would simply hold the amount they
previously carried in cash in other M2 accounts or not.
D. An announcement of an agreement between Congress and the President
that, beginning in the next fiscal year, government spending will be
reduced by an amount sufficient to eliminate all future borrowing?
This would increase expected bond prices, so it would REDUCE the
demand for money.
8. For Discussion – page 220
Most low-income countries do not have a bond market. In such countries,
what substitutes for money that people would hold?
They MIGHT hold any asset. Money itself, gold, and jewelry are common
forms of wealth-holding. In addition, many hold foreign currencies such as
dollars, euros, or yen.
10. For Discussion – page 220
Explain how the Fed’s sale of government bonds shifts the supply curve
for money.
The sale of bonds removes reserves from the system, REDUCING the
quantity of money.
Because the supply curve is a VERTICAL line at the existing quantity of
money, it shifts to the LEFT.
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Video Questions for Lesson 9
Select the ONE best answer
1.
An economist in the video "Financial Markets" explains that one
reaction to an increase in bond yields is
a.
an increase in bond prices.
b.
a decrease in the stock market.
c.
an increase in business investment.
d.
all of the above
2.
In the video "Financial Markets," the value of most currencies is
determined by
a.
government authorities.
b.
the forces of supply and demand.
c.
major export industries.
d.
none of the above
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