ECO 3223 – SPRING, 2012 EVANSSTUDY 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 youunderstand the concepts. Understand the definitions of all terms at the end of each chapter. CHAPTER 11. 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 of time- Budget deficit-the excess of government expenditures over tax revenues for a particularperiod, typically a year- Budget surplus-when tax revenues exceed government expenditures- Business cycles- the upward and downward movement of aggregate output produces in 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 aclaim 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 output1- Security-a claim on the issuer’s future income or assets- Unemployment rate-the percentage of available labor force unemployed2. 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 worth4. What is the interpretation of the movement of interest rates depicted in Figure 1? 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.8. 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.9. 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? Growth rate: (x2-x1)/x1, which equals current year-previous year/previous yearReal 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 yearInflate 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 AverageCHAPTER 21. 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-