Question

Question 1
Explain whether the following statements are TRUE or FALSE. State your stance clearly.
a) A positive term spread is indicative of economic recession.
b) By reducing the required reserve ratio, the central bank can increase the monetary base
and thus the money supply.

Question 2
a) What is yield curve? Explain whether it can be downward sloping.
b) If bond investors decide that 30-year bonds are no longer as desirable an investment as
they were previously, predict what will happen to the yield curve, assuming the
expectations theory of the term structure holds.

Question 3
a) What is realized real interest rate? Can a change in expected inflation rate affect the realized real
interest rate? Explain.
b) Suppose that there is an increase in expected inflation rate from 3 percent to 6 percent.
Given that the after-tax expected real interest rate remains unchanged at 2 percent and the
tax rate is 30 percent, find the original and the new nominal interest rates.

c) Suggest ONE way in which investors can reduce/avoid the risk of unexpected inflation.
Explain how it works.

Question 4
Refer to the table below showing components of monetary aggregates:
   2018 2019
Currency   920 960
Money market mutual fund shares 675 695
Saving account deposits 5,910 6,105
Money market deposit accounts 1,175 1,330
Small denomination time deposits 960 990
   3-month treasury bills 2, 600 2, 546
Demand and checkable deposits 1,220 1,570
Traveler’s checks 2 4

a) Calculate M1 and M2 for 2018 and 2019. Show your steps.
b) Find the growth rate of M2 in 2018-2019.
c) Given the growth rate of M2 in part b, discuss the impact of such growth rate in M2 on
inflation rate according to the equation of exchange.

Answer 1

Question 1
Explain whether the following statements are TRUE or FALSE. State your stance clearly.
a) A positive term spread is indicative of economic recession. (5 marks)

Answer Yes TRUE

Explanation - The yeild spread is a term in economic which shows the chances of likelihood of a recession or the recovery 1 year forward.In economic the spread is equal to

Spread = SHORT TERM BORROWING RATE SET BY THE FEDERAL RESERVE - INTEREST RATE on Ten YEAR Treasury Note ( bond market activity determination)

In the mid of the 2019 after a decade of positive activity the spread fall negative for an expanded time then after the end of year 2019 it come to positive territory.Due to the jgher short term interest rate by federal reserve and the lower long term rate ( when economy go down) the spread become negative .and the investor of bond market have vvery few opportunities of investment.Therefore this is true that SPREAD is an indication of recession

b) By reducing the required reserve ratio, the central bank can increase the monetary base
and thus the money supply.

Yes , TRUE , the central bank which is federal reserve use mnetry policy to decrease or increase the amount of money affecting the supply of money.The federal reserve set the reserve ration for the commercial bank which is the minimum asset it should keep and rest to lend out .The federal or central bank increases the supply of money by reducing the reserve ratio or reserve requirement because it allow the central bankor other commercial bank to lend out more money to the individual or busniess and thus result in increase supply of money.