ECO 4223 MONEY AND FINANCIAL
MARKETS EXAM 1 PRACTICE
QUESTIONS WITH VERIFIED
ANSWERS & RATIONALES – LATEST
2026/2027 PREP GUIDE (FLORIDA
ATLANTIC UNIVERSITY)
1. Financial markets promote economic efficiency by:
A) Channeling funds from investors to savers.
B) Creating inflation.
C) Channeling funds from savers to investors.
D) Reducing investment.
Correct Answer: C. Financial markets facilitate the flow of funds from those who have
excess (savers) to those who have a shortage (investors/borrowers), which leads to
higher economic efficiency .
2. The price paid for the rental of borrowed funds is commonly referred to as
the:
A) Inflation rate.
B) Exchange rate.
C) Interest rate.
D) Aggregate price level.
Correct Answer: C. The interest rate is defined as the price paid for the rental of
borrowed funds, usually expressed as a percentage .
3. Which of the following is NOT a function of money?
A) Medium of exchange.
B) Unit of account.
C) Store of value.
D) Source of inflation.
Correct Answer: D. The three primary functions of money are serving as a medium of
exchange, a unit of account, and a store of value. Money does not inherently function
as a source of inflation .
4. An asset is considered liquid if:
A) It is easily exchanged for money.
,B) It has a high interest rate.
C) It is held for a long period.
D) It is issued by the government.
Correct Answer: A. Liquidity refers to the ease and speed with which an asset can be
converted into a medium of exchange (money) without significant loss of value .
5. If the Fed decides to reduce bank reserves, it can:
A) Purchase government bonds.
B) Sell government bonds.
C) Lower the discount rate.
D) Decrease the reserve requirement.
Correct Answer: B. When the Fed sells government bonds (open market sale), it receives
payment from banks, which reduces the reserves in the banking system .
6. The monetary liabilities of the Fed include:
A) Currency in circulation and loans to financial institutions.
B) Currency in circulation and reserves.
C) Government securities and reserves.
D) Gold and foreign exchange.
Correct Answer: B. The monetary liabilities of the Federal Reserve are the items that
constitute the monetary base: currency in circulation and reserves held by banks .
7. When the interest rate on a bond is above the equilibrium interest rate, in
the bond market there is excess ______ and the bond price will ______:
A) Demand; rise.
B) Demand; fall.
C) Supply; rise.
D) Supply; fall.
Correct Answer: A. At an interest rate above equilibrium, the bond price is below
equilibrium, so the quantity of bonds demanded exceeds the quantity supplied (excess
demand). This pushes the bond price up and the interest rate down toward equilibrium
.
8. The price of a coupon bond and the yield to maturity are ______ related.
A) Positively.
B) Negatively.
C) Not.
D) Directly.
Correct Answer: B. There is an inverse (negative) relationship between bond prices and
yields. As the yield to maturity rises, the present value of future cash flows falls, causing
the bond price to fall .
*9. Using the Gordon Growth formula, if the most recent dividend payment is $2.00,
the required rate of return on equity (Ke) is 12%, and the growth rate (g) is 10%, then
,the current stock price is:**
A) $100.
B) $110.
C) $20.
D) $120.
*Correct Answer: B. The Gordon Growth Model formula is P = D₀(1+g) / (Ke - g).
Plugging in the values: P = $2.00(1.10) / (0.12 - 0.10) = $2..02 = $110 .
10. If many banks fail, this is likely to:
A) Decrease the ratio of currency to deposits.
B) Increase the ratio of currency to deposits.
C) Have no effect on the currency ratio.
D) Decrease the monetary base.
Correct Answer: B. Bank failures reduce public confidence in the banking system,
leading people to hold more currency relative to deposits (they withdraw money from
banks), which increases the currency-deposit ratio .
11. The money supply will increase if the:
A) monetary base increases.
B) currency-deposit ratio increases.
C) required reserve ratio increases.
D) discount rate increases.
Correct Answer: A. An increase in the monetary base (currency in circulation plus
reserves) directly expands the potential for deposit creation, thereby increasing the
money supply .
12. If the Fed increases the rate paid on reserves, banks will tend to hold ______
excess reserves, which will ______ the money multiplier.
A) more; increase.
B) more; decrease.
C) fewer; increase.
D) fewer; decrease.
Correct Answer: B. A higher interest rate on reserves incentivizes banks to hold more
excess reserves rather than lending them out. This reduces the money multiplier
because fewer reserves are being used to create new deposits .
13. We can interpret the monetary base as the:
A) total value of assets in an economy.
B) liabilities of the Fed to the private sector.
C) total amount of currency held by the public.
D) sum of checkable deposits and reserves.
Correct Answer: B. The monetary base (also called high-powered money) is the sum of
the Fed's monetary liabilities: currency in circulation and reserves held by banks .
, 14. When a bank sells a government bond to the Federal Reserve, reserves in
the banking system ______ and the monetary base ______.
A) decrease; decrease.
B) increase; increase.
C) increase; decrease.
D) decrease; increase.
Correct Answer: B. When the Fed buys bonds (an open market purchase), it pays for
them by crediting the selling bank's reserve account, which increases both reserves and
the monetary base .
**15. When the Fed extends a $100 discount loan to the First National Bank, reserves
in the banking system:**
A) increase by $100.
B) decrease by $100.
C) remain unchanged.
D) increase by more than $100.
Correct Answer: A. A discount loan directly increases the reserves of the borrowing
bank by the amount of the loan .
16. If reserves in the banking system increase by $100, then checkable deposits
will increase by $400 in the simple model of deposit creation when the required
reserve ratio is:
A) 0.20.
B) 0.25.
C) 0.10.
D) 0.50.
Correct Answer: B. The simple deposit multiplier is 1/rr. If reserves increase by $100
and deposits increase by $400, the multiplier is 4. Therefore, the required reserve ratio
(rr) is 1/4 = 0.25 .
17. An increase in an asset's expected return relative to that of an alternative
asset, ______ the quantity demanded of the asset.
A) increases.
B) decreases.
C) has no effect on.
D) inversely affects.
Correct Answer: A. The quantity demanded of an asset is positively related to its
expected return relative to alternative assets. Higher relative return makes the asset
more attractive .
18. When the exchange rate for the British pound changes from $1.80 per
pound to $1.60 per pound, then the pound has ______ and ______ expensive.
A) depreciated; American wheat sold in Britain becomes more.
B) appreciated; British cars sold in the United States becomes more.
MARKETS EXAM 1 PRACTICE
QUESTIONS WITH VERIFIED
ANSWERS & RATIONALES – LATEST
2026/2027 PREP GUIDE (FLORIDA
ATLANTIC UNIVERSITY)
1. Financial markets promote economic efficiency by:
A) Channeling funds from investors to savers.
B) Creating inflation.
C) Channeling funds from savers to investors.
D) Reducing investment.
Correct Answer: C. Financial markets facilitate the flow of funds from those who have
excess (savers) to those who have a shortage (investors/borrowers), which leads to
higher economic efficiency .
2. The price paid for the rental of borrowed funds is commonly referred to as
the:
A) Inflation rate.
B) Exchange rate.
C) Interest rate.
D) Aggregate price level.
Correct Answer: C. The interest rate is defined as the price paid for the rental of
borrowed funds, usually expressed as a percentage .
3. Which of the following is NOT a function of money?
A) Medium of exchange.
B) Unit of account.
C) Store of value.
D) Source of inflation.
Correct Answer: D. The three primary functions of money are serving as a medium of
exchange, a unit of account, and a store of value. Money does not inherently function
as a source of inflation .
4. An asset is considered liquid if:
A) It is easily exchanged for money.
,B) It has a high interest rate.
C) It is held for a long period.
D) It is issued by the government.
Correct Answer: A. Liquidity refers to the ease and speed with which an asset can be
converted into a medium of exchange (money) without significant loss of value .
5. If the Fed decides to reduce bank reserves, it can:
A) Purchase government bonds.
B) Sell government bonds.
C) Lower the discount rate.
D) Decrease the reserve requirement.
Correct Answer: B. When the Fed sells government bonds (open market sale), it receives
payment from banks, which reduces the reserves in the banking system .
6. The monetary liabilities of the Fed include:
A) Currency in circulation and loans to financial institutions.
B) Currency in circulation and reserves.
C) Government securities and reserves.
D) Gold and foreign exchange.
Correct Answer: B. The monetary liabilities of the Federal Reserve are the items that
constitute the monetary base: currency in circulation and reserves held by banks .
7. When the interest rate on a bond is above the equilibrium interest rate, in
the bond market there is excess ______ and the bond price will ______:
A) Demand; rise.
B) Demand; fall.
C) Supply; rise.
D) Supply; fall.
Correct Answer: A. At an interest rate above equilibrium, the bond price is below
equilibrium, so the quantity of bonds demanded exceeds the quantity supplied (excess
demand). This pushes the bond price up and the interest rate down toward equilibrium
.
8. The price of a coupon bond and the yield to maturity are ______ related.
A) Positively.
B) Negatively.
C) Not.
D) Directly.
Correct Answer: B. There is an inverse (negative) relationship between bond prices and
yields. As the yield to maturity rises, the present value of future cash flows falls, causing
the bond price to fall .
*9. Using the Gordon Growth formula, if the most recent dividend payment is $2.00,
the required rate of return on equity (Ke) is 12%, and the growth rate (g) is 10%, then
,the current stock price is:**
A) $100.
B) $110.
C) $20.
D) $120.
*Correct Answer: B. The Gordon Growth Model formula is P = D₀(1+g) / (Ke - g).
Plugging in the values: P = $2.00(1.10) / (0.12 - 0.10) = $2..02 = $110 .
10. If many banks fail, this is likely to:
A) Decrease the ratio of currency to deposits.
B) Increase the ratio of currency to deposits.
C) Have no effect on the currency ratio.
D) Decrease the monetary base.
Correct Answer: B. Bank failures reduce public confidence in the banking system,
leading people to hold more currency relative to deposits (they withdraw money from
banks), which increases the currency-deposit ratio .
11. The money supply will increase if the:
A) monetary base increases.
B) currency-deposit ratio increases.
C) required reserve ratio increases.
D) discount rate increases.
Correct Answer: A. An increase in the monetary base (currency in circulation plus
reserves) directly expands the potential for deposit creation, thereby increasing the
money supply .
12. If the Fed increases the rate paid on reserves, banks will tend to hold ______
excess reserves, which will ______ the money multiplier.
A) more; increase.
B) more; decrease.
C) fewer; increase.
D) fewer; decrease.
Correct Answer: B. A higher interest rate on reserves incentivizes banks to hold more
excess reserves rather than lending them out. This reduces the money multiplier
because fewer reserves are being used to create new deposits .
13. We can interpret the monetary base as the:
A) total value of assets in an economy.
B) liabilities of the Fed to the private sector.
C) total amount of currency held by the public.
D) sum of checkable deposits and reserves.
Correct Answer: B. The monetary base (also called high-powered money) is the sum of
the Fed's monetary liabilities: currency in circulation and reserves held by banks .
, 14. When a bank sells a government bond to the Federal Reserve, reserves in
the banking system ______ and the monetary base ______.
A) decrease; decrease.
B) increase; increase.
C) increase; decrease.
D) decrease; increase.
Correct Answer: B. When the Fed buys bonds (an open market purchase), it pays for
them by crediting the selling bank's reserve account, which increases both reserves and
the monetary base .
**15. When the Fed extends a $100 discount loan to the First National Bank, reserves
in the banking system:**
A) increase by $100.
B) decrease by $100.
C) remain unchanged.
D) increase by more than $100.
Correct Answer: A. A discount loan directly increases the reserves of the borrowing
bank by the amount of the loan .
16. If reserves in the banking system increase by $100, then checkable deposits
will increase by $400 in the simple model of deposit creation when the required
reserve ratio is:
A) 0.20.
B) 0.25.
C) 0.10.
D) 0.50.
Correct Answer: B. The simple deposit multiplier is 1/rr. If reserves increase by $100
and deposits increase by $400, the multiplier is 4. Therefore, the required reserve ratio
(rr) is 1/4 = 0.25 .
17. An increase in an asset's expected return relative to that of an alternative
asset, ______ the quantity demanded of the asset.
A) increases.
B) decreases.
C) has no effect on.
D) inversely affects.
Correct Answer: A. The quantity demanded of an asset is positively related to its
expected return relative to alternative assets. Higher relative return makes the asset
more attractive .
18. When the exchange rate for the British pound changes from $1.80 per
pound to $1.60 per pound, then the pound has ______ and ______ expensive.
A) depreciated; American wheat sold in Britain becomes more.
B) appreciated; British cars sold in the United States becomes more.
