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Money and Banking > week 5 > Flashcards

week 5 Flashcards

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1
Q

what is dual mandate?

A

the feds responsibility to use monetary policy to promote maximum employment and price stability

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2
Q

what is max employment?

A

highest level of employment that an economy can sustain while maintaining low and stable inflation
- fed’s policy decision is infomred by its assement of shortfalls of employment form its mac level

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3
Q

what is price stability?

A

a low and stable rate of inflation maintained over an extended period of time. the fed seeks to achieve an inflation rate that averages 2% over time

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4
Q

what is the procedure path from the FOMC policy rate target to the fed’s dual mandate?

A

1) FOMC sets the target range for the federal funds rate
2) the policy implementation affects the market interest rate and overall financial conditinos
3) this also influences the deciosions of households and businesses
4) ultimately affects employment and inflation

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5
Q

how does the federal reserve pursue its economic goals of price stability and employment maximisation ?

A
  • by managing the nation’s money and credit => ny conducting monetary policy
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6
Q

what type of monetary polcy can the feds conduct ?

A

expansionary / contractionary monetary policy

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7
Q

what is expansionary monetary policy?

A
  • refers to actions taken by the fed to provide stimulus for the economy
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8
Q

what is contractionary monetary policy?

A
  • refers to actions taken by the fed to bring actual and expected inflation back towards its target to maintain price stability
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9
Q

what were the main policy instruments before 2020?

A
  • reserve requirement - was effective until 2020
  • interest on reserve balances
  • lending to banks at a disocunt window
  • open market operations
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10
Q

what happened with the reserve requirements in 2020?

A
  • they got reduced to 0
  • the action eliminates the need for thousands of depository institutions to maintain balances in accounts at the reserve banks to satisfy reserve requirement => freeing up liquidity in the banking system to support lending to households and businesses/
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11
Q

what are the policy implementation tools after 2020?

A

1) interest on reserve balances
2) discount window
3) open market operatoins

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12
Q

how is policy rate and administered interest rates connected?

A
  • when the cb sets the target for the policy rate, it also chooses the level for the administered interest rate that will encourage the policy rate to move towards the target
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13
Q

what happens when cb raises the target for the policy rate?

A

it also raises the administered interest rate which move the policy rate up into new target range

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14
Q

what happens when cb lowers the target for the policy rate?

A

it also lowers the administered interest rates which moves the policy rate down into the new target range

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15
Q

what is interest on reserve balances?

A
  • fed bank pays interest on reserve balances
  • it is determined by the board and it an important tool for the feds conduct of monetary policy
  • fed started paying interst on excess resrevs only in 2008
  • ## it is used to provide a floor under the federal funds rate
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16
Q

what is discount window?

A
  • it plays an important role in supporting the effective implementation of monetary policy and the stability of the banking system
  • allows depository institutions and the us branches and agencies of foreign banks to borrow from the federal reserve bank after executing legal agreements
    -cb’s lending to banks at the discount window - a key administered interest rate
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17
Q

In a banking system with ample reserves, and the
economy in recession, the central bank wishes to use policy to reduce unemployment.
How can the central bank use its monetary policy tools to achieve full employment?

A

The central bank lowers the administered rates to steer
the policy rate lower.

  • policy makers decrease the policy rate target
  • central banks lowers its administered rates
  • lower policy rate pushed other interest rates lower
  • lower borrowing costs encourages more spending and investment
  • higher spending results in more production and higher employment
  • aggregate demand increases, real output increases, price level increases
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18
Q

In a banking system with ample reserves, inflation has
exceeded the central bank’s inflation target
How can the central bank use its monetary policy tools to achieve price stability

A
  • the central bank rasies the administered rates to steer the policy rate higher
  • central bank raises its administered rates
  • higher policy rate pushes other investment rate higher
  • higher borrowing costs discourage spending and investment
  • lower spending results in less production and employment
  • aggregate demand decreases => real output decreases => price level decreases
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19
Q

what do open market operations do?

A

they are conducted periodically to maintain ample reserves or to conduct large scale asset purchases (i.e. qunatative easing)

  • buying and selling of gov securities by the central bank
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20
Q

what is forward guidance?

A

it is a tool that central banks use to tell the public about likely future course of monetary policy
- when cb provide forward guidance, individuals and businesses can use this information in making decisions about spending and investments
- the fed open market committe (fomc) began using it in the early 2000s

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21
Q

what is maturity in the debt instruments:

A

the remaining time until the expiration date

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22
Q

what are dividends in the equities market?

A

periodic payment to shareholders

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23
Q

what are debt instruments?

A
  • loans granted by banks and bonds issued by corporations and governments
  • contractually fixed return (per period interest, principal at maturity date)
  • no voting right
  • types: loans and bonds
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24
Q

what is equity?

Study These Flashcards
A
  • may get an annual share of profits as dividends
  • owns part of the company
  • right to vote
  • price varies depending on supply & demand
25
what are the primary and secondary markets?
- the primary markets are not well known to the public - the previously issued securities will be sold in the secondary market - brokers and dealers work in the secondary markets
26
what are exchnage markets?
- forex - foreign exchange market - determines the exchange rate for currencies around the world
27
what are over the counter markets (OTC)
- they are loosely regulated trading of securities either by direclty between private parties or via broker-dealer networks, rather than on formal exchanges - offers anonymity
28
what are the money markets?
- they deal with short-term debt instruments, short terms to maturity, least price fluctuations and leas risky investment
29
what are capital markets?
- deal in longer-term debt and equity instruments - with maturities more than one year
30
what is a bond?
- it is a fixed income instrument used by governments and companies to increase money from investors => think of them as loand - it is a debt security that promises to make payments periodically for a specific period of time - a bond is a promise to pay something in the future for receiving something today - bonds are issued as forms of tradable debt
31
what are the advantages of bonds?
- they receive income through the interest payments - they hold the bond to matutirty and get all your principal back - profit if you resell the bond at a higher price
32
what are the four types of credit market instruments?
1) a simple loan 2) a fixed-payment loann 3) a coupon bond 4) a discount bond
33
what is a fixed payment loan?
the lender provides the borrower with an amount of funds, which must be repaid by making the same payment every period consisting of part of the principal and interest for set number of years
34
what is a coupon bond?
pays the owner of the bond a fixed interest payment (coupon payment) every year until the maturity date, when a specified final amount (face value or par value) is repaid.
35
what is a discount bond?
(also called a zero-coupon bond) is bought at a price below its face value (at a discount), and the face value is repaid at the maturity date. Unlike a coupon bond, a discount bond does not make any interest payments; it just pays off the face value. example US TBill
36
hwo to decide which of these instuments provide you with more income?
we need to look at present value to provide us with a procedure for measuring interest rates on these different types instruments
37
what is the most imporatn way of calculating interest rates?
- yield to maturity - the interest rate that equates the present value of cash flow payments received form a debt instrument with its value today
38
what is the formula for PV?
39
formula for more generally any fixed payment loan?
40
what is the face value or par value of a coupon bond?
the FV is the value assigned to the bond, this is the amount of money loaned to the issuer and it will be returned to the lender at maturity?
41
what is maturity?
This is the length of time of the financial contract. For instance, it is 10 years. So, the investor who bought a bond would be loaning for a period of 10 years.
42
what is a coupon rate CR?
Now the investor/lender needs to get compensated for lending his money. The CR is the annual rate of interest that could be paid semi-annually or annually.
43
what is yield to maturity?
is the interest rate earned by an investor who buys a bond at the market price and holds it until maturity. In other words, it measures of the return on holding a bond until it matures.
44
what is the formula for price of coupon bond?
45
what is the formula for coupon rate?
(annual coupon payment / face value of bond )x100
46
what is a discounted purchase price for zero coupon bnod?
The bond is initially sold to investors at a price significantly below its face value. The difference between the purchase price and the face value represents the interest or yield that the bondholder will earn when the bond matures.
47
price of zero coupon bond?
To compensate investors for not receiving periodic interest payments, zero-coupon bonds are issued at a discount to their face value. Zero Coupon Bond= FV(Face Value)/(1 + i)ˆn
48
when will a bond be likely to sell at discount?
when price < FV
49
when will a bond be likely to sell at par?
price = FV
50
when will a bond be likely to sell at permium?
price > FV
51
what is unique about the zero-coupon bond?
- Zero coupon bonds are highly sensitive to changes in interest rates due to their unique structure and lack of periodic coupon payments. - Unlike traditional coupon bonds, zero coupon bonds are issued at a deep discount to their face value and do not make periodic interest payments. - Since the maturity value is fixed, any change in the discount rate significantly impacts the present value of the bond.
52
who is issuer of bonds?
the borower
53
who is the bondholder of bonds?
the creditor or purchase of the bond - lender
54
what happens when a bond is sold at a higher price on the secondary market?
the original bondholder realizes a profit
55
what is usually the initial price of the bond at the primary market?
- the initial price of most bonds is typically set at par
56
what does the actual price of the bond depend on?
- credit quality of the issuer - lenght of time until expiration - coupon rate compared tp the general interest ate
57
what is yiled to maturity?
- expected return you get by applying the cooupon rate to its market price - expected return you will get when you buy the bond at that given price and hold it till maturity
58
what is the relationship between bond price and interest rate?
inverse
59
differnce between coupon rate and yield to maturity?
A bond’s coupon rate is the rate of interest it pays annually, while its yield is the rate of return it generates

Money and Banking (11 decks)

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