ECO 3223 SPRING 2012 EVANS STUDY GUIDE FOR EXAM 1 Note This is intended to direct you to the relevant topics that will be covered on the exam Questions will be worded differently so don t MEMORIZE this content use it to help you understand the concepts Understand the definitions of all terms at the end of each chapter CHAPTER 1 1 Know all of the Key Terms from this chapter Aggregate income the total income of factors of production land labor and capital from producing goods and services in the economy during the course of the year best thought of as being equal to aggregate output Aggregate output total production of goods and services Aggregate price level the average price of goods and services in an economy Asset any financial claim or piece of property that is subject to ownership Banks financial institutions that accept deposits and make loans Bond a debt security that promises to make payments periodically for a specified period Budget deficit the excess of government expenditures over tax revenues for a particular Budget surplus when tax revenues exceed government expenditures Business cycles the upward and downward movement of aggregate output produces in of time period typically a year the economy Central bank the organization responsible for the conduct of a nation s monetary policy Common stock represents a share of ownership in a corporation It is a security that is a claim of the earnings and assets of the corporation E finance dramatic improvements in the information technology that has lead to new means of delivering financial services electronically Federal reserve system the United State s central bank Financial crises major disruptions in financial markets that are characterized by sharp declines in asset prices and the failures of many financial and non financial firms Financial intermediaries institutions that borrow funds from people who have saved and in turn make loans to others Financial markets markets in which funds are transferred from people who have an excess of funds to people who have a shortage Fiscal policy decisions about government spending and taxation Foreign exchange market where conversions in currencies take place Foreign exchange rate the price of one country s currency in terms of another s Gross domestic product the market value of all final goods and services produced in a country during the course of a year Inflation a continual increase in the price level Inflation rate the rate of change of the price level usually measured as a percentage change per year Interest rate the cost of borrowing or the price paid for the rental of funds Monetary policy the management of money and interest rates Monetary theory the theory that relates changes in the quantity of money to changes in aggregate economic activity and the price level Money money supply anything that is generally accepted in payment for goods or services or in the repayment of debts Recession periods of declining aggregate output 1 Security a claim on the issuer s future income or assets Unemployment rate the percentage of available labor force unemployed 2 What role do financial markets play in the economy Financial markets link people with an excess of money lenders with people who need money borrowers 3 Know the structure of a balance sheet assets liabilities net worth Assets liabilities net worth 1 4 What is the interpretation of the movement of interest rates depicted in Figure While the interest rates trend together the spread between them can vary 5 From Figure 2 explain the sharp rise in the DJIA between 1990 2000 the steep declines in 2001 and 2007 The sharp rise in the DJIA between 1990 2000 resulted from the economy growing because of the increasing ease by which investors could trade stocks using computers Before this time investors had to find a broker or dealer to trade stocks but because of computers and online trading investors could trade much easier The steep decline in 2001 resulted from the September 11 2011 terrorist attacks the ensuing war and the collapse of the high tech bubble The steep decline in 2007 resulted from the financial crisis and the sharp decline in the housing market 6 What is the key piece of information regarding M2 growth and recessions as conveyed by Figure 3 Recessions are always preceded by a sharp drop in money supply 7 We discussed the crossover of M2 and the GDP Deflator depicted in Figure 4 Be able to explain this The technology boom in the 1980s allowed workers to be more productive without raising prices This caused the money supply to increase and the GDP deflator to not increase as fast because the increased productivity did not make prices rise Under which President did the budget surplus of 199 2001 occur and why did the budget subsequently shift again into a deficit Clinton the budget shifted back to a deficit in the aftermath of the Sept 11 attacks and because of decreased tax rates from the Bush administration How would you calculate any growth rate How would you calculate the real rate of economic growth from one period to the next How would you inflate an historic value to a current value 8 9 Growth rate x2 x1 x1 which equals current year previous year previous year Real rate of economic growth first calculate the real GDP of the current year Nominal GDP of current year x deflator of previous year deflator of current year then plug this number into the percent change formula 2 real GDP of current year nominal GDP of previous year nominal GDP of previous year Inflate historic value to current value Current value previous value x current CPI previous CPI 10 What metric is most widely used to evaluate the U S stock market s performance The Dow Jones Industrial Average CHAPTER 2 1 Understand all of this chapter s Key Terms Adverse selection problem created by asymmetric information before the transaction occurs Occurs when the potential borrowers who are most likely to produce an undesirable result are the ones who most actively seek out a loan Asset transformation when risky assets are turned into safer assets for investors Asymmetric information when one party does not know enough about the other party to make accurate decisions Brokers agents of investors who match buyers with sellers of securities Capital wealth either financial or physical that is employed to produce more wealth Capital market the market in which long term debt and equity instruments are traded Currency paper money or coins Dealers link buyers and