IAR Economics & Economic Indicators 2 — Questions and Answers
Question 1: Which of the following best describes the concept of the money multiplier in banking?
- The rate at which the Fed increases the money supply each year
- The process by which initial deposits create a larger increase in the total money supply through lending (Correct answer)
- The ratio of currency in circulation to total bank deposits
- The interest earned on deposits compounded over multiple periods
Correct answer: The process by which initial deposits create a larger increase in the total money supply through lending
The money multiplier describes how an initial deposit expands through the banking system as banks lend out a portion of each deposit, creating a multiplied increase in the total money supply.
Question 2: An inverted yield curve (where short-term rates exceed long-term rates) has historically been associated with:
- A period of rapid economic expansion
- An impending economic recession (Correct answer)
- Rising stock market valuations
- Decreasing inflationary pressures
Correct answer: An impending economic recession
An inverted yield curve has historically preceded recessions because it signals that investors expect future interest rates (and economic activity) to decline.
Question 3: Which of the following is an example of fiscal policy?
- The Federal Reserve lowering the federal funds rate target
- Congress passing a tax cut to stimulate economic growth (Correct answer)
- The Fed purchasing Treasury securities through open market operations
- The Treasury Department issuing new currency
Correct answer: Congress passing a tax cut to stimulate economic growth
Fiscal policy refers to government actions involving taxation and spending; a congressional tax cut is a classic example of expansionary fiscal policy.
Question 4: When comparing real GDP growth to nominal GDP growth, which statement is most accurate?
- Nominal GDP adjusts for inflation while real GDP does not
- Real GDP adjusts for inflation, making it a better measure of actual economic output growth (Correct answer)
- Both measures are identical when inflation equals zero percent
- Real GDP always grows faster than nominal GDP
Correct answer: Real GDP adjusts for inflation, making it a better measure of actual economic output growth
Real GDP removes the effect of inflation from nominal GDP, allowing for a more accurate comparison of economic output across different time periods.
Question 5: A client asks about the difference between cyclical and defensive stocks during an economic downturn. Which response is most accurate?
- Cyclical stocks perform well in recessions; defensive stocks suffer during contractions
- Defensive stocks tend to maintain performance during recessions; cyclical stocks typically underperform (Correct answer)
- Both cyclical and defensive stocks decline equally during economic contractions
- Cyclical stocks include utilities and consumer staples; defensive stocks include airlines and retailers
Correct answer: Defensive stocks tend to maintain performance during recessions; cyclical stocks typically underperform
Defensive stocks (utilities, consumer staples, healthcare) provide stable earnings regardless of economic conditions, while cyclical stocks (travel, retail, manufacturing) rise and fall with the economic cycle.
Question 6: The Phillips Curve describes the historical relationship between:
- Interest rates and bond prices
- Inflation and unemployment rates (Correct answer)
- GDP growth and stock market returns
- Money supply growth and currency value
Correct answer: Inflation and unemployment rates
The Phillips Curve illustrates the inverse relationship between inflation and unemployment, suggesting that as unemployment falls, inflation tends to rise, and vice versa.
Question 7: Which economic indicator would be most useful for an investment adviser trying to assess the current state of the U.S. labor market?
- The Producer Price Index (PPI)
- The non-farm payroll report (Correct answer)
- The trade deficit figure
- The federal funds effective rate
Correct answer: The non-farm payroll report
The non-farm payroll report, released monthly by the Bureau of Labor Statistics, provides the most comprehensive and timely measure of employment trends in the U.S. economy.
IAR Economics & Economic Indicators 2
Which of the following best describes the concept of the money multiplier in banking?