Question

1. Suppose the economy is producing at potential output. Everything else held constant, if the central bank wants to permanently decrease the inflation rate, it needs to _____ the real interest rate _____.

Select one:

a. lower; permanently

b. lower; temporarily

c. raise; temporarily

d. raise; permanently

2. Noise traders

Select one:

a. trade only when they have inside information.

b. tend to lose money on stock trades, but help to stabilize the market.

c. tend to make higher returns than do "buy-and-hold" investors.

d. create additional risk in the market by increasing price fluctuations.

3. If the Fed desired to reduce the federal funds rate

Select one:

a. it would conduct an open market sale, increasing reserve demand.

b. it would conduct an open market purchase, increasing reserve supply.

c. it would conduct an open market purchase, reducing reserve demand.

d. it would conduct an open market sale, reducing reserve supply.

Answer 1

Answer-1. Correct option is 'd'

Suppose the economy is producing at potential output. Everything else held constant, if the central bank wants to permanently decrease the inflation rate, it needs to raise the real interest rate permanently. A permanent raise real interest rate will permanently decrease the inflation rate.

Answer-2. Correct option is 'd'

Noise traders create additional risk in the market by increasing price fluctuations. A noise trader is an individual who trades based on the incomplete or inaccurate data, often trading irrational. Noise traders often make trades based on the hype or rumour rather than on solid technicalor fundamental analysis. Noise trading generated by the uninformed traders harms market efficiency because the uninformed trader's contrarian strategies keep prices from adjusting to new information when prices are far from true values.

Answer-3. Correct option is 'b'

If the Fed desired to reduce the federal funds rate it would conduct an open market purchase, increasing reserve supply. Reduce reserve requirements means an expansionary monetary policy because it will create an additional excess reserves and induce banks to extend additional loans, which will expand the money supply. Open market purchase will expand the money stock directly and increase the reserves of banks, including bankers in turn to extend more loans, this will expand the money stock indirectly.