Question

1) As the Fed responded to the financial crisis that followed the collapse of the housing market, certain banks were deemed too:

• large to fail, as their failure would carry the risk of causing a domino effect in the highly integrated financial system.

• large to fail, and were consequently purchased by the government.

• small to fail, as they were easy to save.

• large to stay afloat, as they would be too costly to save.

2) The practice of securitization of mortgages:

• was undertaken by government to guarantee the values of real estate.

• pooled the risk of mortgages, allowing higher risk mortgages to be more safely sold to investors.

• pooled high-risk mortgages together, which raised the prices of them to investors.

• allowed investors to profit from the mortgage payments without being exposed to any risk.

3) Which of the following is a reason why aggregate supply decreased following the housing bubble collapse?

• Government tax rates were altered as a response to change in aggregate output.

• People stopped investing in homes.

• Consumption decreased.

• Businesses could not access credit to carry out their daily operations.

4) If the idea of herd instinct is true, it suggests that the:

• inefficient-market hypothesis doesn't always hold.

• inefficient-market hypothesis does, in fact, hold.

• efficient-market hypothesis doesn't always hold.

• efficient-market hypothesis does, in fact, hold.

Answer 1

Question 1

Financial crisis in 2008 in the United States was caused by the collapse of the housing market.

This collapse of housing market adversely impact many banks due to their enormous exposure to the housing market.

Fed undertake massive actions to save some banks from going under as certain banks were deemed too large to fail, as their failure would carry the risk of causing a domino effect in the highly integrated financial system.

Hence, the correct answer is the option (a).

Question 2

Securitization of mortgages is a step undertaken by investment banks in which ther tends to pooled the risk of mortgages.

This allows banks to safely sold the high risk mortgages to the investors.

Hence, the correct answer is the option (b).

Question 3

When housing market collapsed in the United States, the financial capital dried up. The credit crunch in the United States emerged.

As businesses are being not able to get funds, they are not able to operate properly.

This has adversely impacted their production processes and resulted in decrease in production and aggregate supply.

Hence, the correct answer is the option (d).

Question 4

Herd instinct implies that individuals just take cues from others to take their decisions without undertaking rational consideration on their own.

This is against the efficient market hypothesis that indicate rational decision making taking into account all the available information.

Hence, the correct answer is the option (c).