ANSWER OUTLINE
ECONOMICS 353 (SECTION 1) L. Tesfatsion/Spring 02
EXERCISE 6: 6 POINTS TOTAL DUE: Tuesday, March 12, 9:30 A.M.
*IMPORTANT REMINDER: LATE ASSIGNMENTS CANNOT BE ACCEPTED -- NO EXCEPTIONS*
*INSTRUCTIONS:*
(1) Please FILL IN YOUR NAME, BIRTH DATE, AND STUDENT ID NUMBER on Side 1
of your bubble sheet and write "353 SECTION 1-EXERCISE 6" in the top margin
of Side 1.
(2) Use a #2 pencil# to MARK YOUR ANSWERS on Side 1 of the bubble sheet to
the following six multiple choice questions.
(3) Please note that these six questions continue onto the back side of
this question sheet. Each question is worth 1 point.
Q1. If there is a sudden INCREASE today (March 12, 2002) in the inflation
rate that borrowers and lenders expect for NEXT year (2003), then (all else
equal) this will tend to encourage an increase in the ________ bonds today,
because _______ will now foresee a ______.
A. supply of; lenders; increase in their real future interest earnings
B B. supply of; borrowers; decrease in their real future interest payment costs
C. demand for; lenders; decrease in their real future interest payment costs
D. demand for; borrowers; increase in their real future interest earnings
E. supply of; borrowers; increase in their real future interest earnings
Q2. If a sudden DECREASE occurs today (March 12, 2002) in the future yield
to maturity that borrowers and lenders EXPECT will hold for bonds in January
of 2003, then (all else remaining equal) one would expect to see _______ in
the demand for bonds today because of ________.
A. an increase; a higher expected capital gain from Jan 2003 to Jan 2004
B. a decrease; a lower expected capital gain from today through Jan 2003
C C. an increase; a higher expected capital gain from today through Jan 2003
D. a decrease; a lower expected capital gain from Jan 2003 to Jan 2004
E. none of the above
Q3. The recent bankruptcy of the Enron Corporation caused jitters among
investors regarding the credibility of accountants' reports testifying to the
financial soundness of corporations. A plausible outcome of such a shock, at
least in the short run, would be _________ in the demand for corporate bonds,
most likely due to _________ .
A. an increase; increased moral hazard associated with corporate bonds
B. an increase; increased interest rate risk associated with corporate bonds
C. a decrease; increased adverse selection associated with corporate bonds
D D. a decrease; an increased fear of payment default on corporate bonds
E. a decrease; individual investors replacing their corporate bonds by
stock shares from these same corporations
Q4. If there currently is an EXCESS SUPPLY of Ames municipal bonds, then the
theory in Mishkin Chapter 5 predicts that (all else equal) the current price
of these bonds is ______ the equilibrium price level and hence will_______.
A. above; be bid upwards until demand equals supply
B B. above; be bid downwards until demand equals supply
C. below; be bid upwards until demand equals supply
D. below; be bid downwards until demand equals supply
Q5. If the yield to maturity on Treasury bonds is currently ABOVE its
equilibrium level, this means that the price of the Treasury bonds is
currently ______ its equilibrium level, hence the price can be expected to
________.
A. below; fall
B B. below; rise
C. above; fall
D. above; rise
Q6. If the market for U.S. Treasury bonds is currently in a demand=supply
equilibrium, and suddenly Alan Greenspan at the Fed announces that he has
good reason to believe that NEXT YEAR the inflation rate will be LOWER than
currently anticipated, then the analysis in Mishkin Chapter 5 predicts that
(all else equal) the equilibrium price of U.S. Treasury bonds today will
________ and the equilibrium quantity of these bonds sold today will _________.
A. rise; rise
B. fall; fall
C. fall; rise
D. either rise or fall (effect is theoretically ambiguous); rise
E E. rise; either rise or fall (effect is theoretically ambigous)
