1. What is meant by the terms "narrow money" and "broad money"?Does broad money fulfil all the functions of money?
Answer: narrow money is made up of cash and current accounts with banking system;
Broad money includes both of these and in addition deposit accounts (which can be withdrawn on demand).
2. Which if any count as (broad) money (a) a credit card (b) a debit card (c) a cheque book (d) a bank deposit account pass book. (e) a building society pass book.
Answer: Strictly speaking none of these is money as such. Rather they facilitate the use of money. All – except a building society pass back would facilitate the use of broad money
3. If a bank has a surplus of cash why might it choose to make a market loan with it rather than giving extra personal loans or mortgages to its customers?
Answer: Banks must be careful regarding the need for liquidity i.e. cash, to meet immediate consumer demands. If to much of their assets were tied up in lonegr term liabilities like loans, then liquidity could suffer.
4. Why do banks hold a range of assets of varying degrees of liquidity and profitability?
Answer: this is similar to the last question. The banks try to balance the need for liquidity (to preserve confidence and security) with that of making profits for shareholders.
5. Would it be possible for an economy to function without a central bank?
Answer: Yes! In fact Ireland did not have a Central Bank until 1942. Before that the normal functions of a Central Bank were met in part by the main commercial bank.
6. Imagine that the banking system receives additional deposits of €100 million and that all the individual banks wish to retain their current liquidity ratio of 10%.
(a) How much of the €100 million will banks choose to lend out initially?
(b) What will happen to banks’ liabilities (i.e. deposits) when the money lent out is spent and recipients of it deposit it deposit it in their bank accounts?
(c) How much of these latest deposits will be lent out by the banks?
(d) By how much will total deposits (liabilities) eventually have risen, assuming that none of the liquidity is held outside the banking sector?
(e) What is the size of the bank multiplier?
Answer (a) €90 million (b) they will increase (by €90 million) (c) €81 million (d) €1000 million (e) 10
7. What effects will the following have on the (equilibrium) rate of interest?
(a) banks find that they have a higher liquidity ratio than they need.
(b) a rise in incomes
(c)A growing belief that interest rates will rise from their current levels
Answer (a) rate of interest will fall (as money supply increases); (b) rate of interest will rise (as demand for money increases); (c) rate of interest will rise (in anticipation of rise).
8. What effect would a substantial increase in the sale of government bonds (gilts) and Treasury bills have on interest rates?
Answer: it would lead to a rise (as the ability of banks to extend loans decreases).
9 What are the reasons for people wanting to hold money?
Answer: transactions motive, precautionary motive and speculative motive
10. Show how the interest rate is determined in the money market.
Answer: in theory determined by the supply and demand for money. However in practice other factors can be important such as international markets, political factors and exchange rates
11. Explain the four terms in the following quantity theory of money identity: MV = PT
Answer: M = money supply; V = velocity of circulation: P = price level; T = level of transactions
12. Why is the quantity theory of money important?
Answer: It establishes a clear connection as between M (money supply) and P (price level); so control of money supply is seen as the way of controlling inflation