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Money and Banking - Solved Exam 1 | ECON 310, Exams of Banking and Finance

George Mason University (GMU)Banking and Finance

Material Type: Exam; Class: Money and Banking; Subject: Economics; University: George Mason University; Term: Unknown 1989;

Typology: Exams

2019/2020

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Name: PRACTICE—KEY
Econ 310
EXAM 01
•There are 110 possible points on this exam, but the exam is out of 100.
•You have one hour and fifteen minutes to complete this exam, but you should be able to
finish it in less than that.
•Please turn off all cell phones and other electronic equipment.
•You are allowed a calculator for the exam.
•Be sure to read all instructions and questions carefully.
•You are allowed one 3’’ x 5’’ note card to assist you in the exam.
•Remember to show all your work.
•Recall basic logic. “Water is wet” is a true statement. “Water is wet and leopards have
stripes” is a false statement.
•Please print clearly and neatly.
pf3
pf4
pf5

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Download Money and Banking - Solved Exam 1 | ECON 310 and more Exams Banking and Finance in PDF only on Docsity!

Name: PRACTICE—KEY Econ 310

EXAM 01

  • There are 110 possible points on this exam, but the exam is out of 100.
  • You have one hour and fifteen minutes to complete this exam, but you should be able to finish it in less than that.
  • Please turn off all cell phones and other electronic equipment.
  • You are allowed a calculator for the exam.
  • Be sure to read all instructions and questions carefully.
  • You are allowed one 3’’ x 5’’ note card to assist you in the exam.
  • Remember to show all your work.
  • Recall basic logic. “Water is wet” is a true statement. “Water is wet and leopards have stripes” is a false statement.
  • Please print clearly and neatly.

Part I: Multiple Choice. Circle the letter that corresponds to the best answer. 5 points each.

  1. Which of the following is not a function of money? a. As a way to easily assess how much an item is worth. b. As a common denominator that is always included in exchanges. c. As something which will not rot, decay, or unavoidably loose value over time. d. A & C e. None of the above Respectively, A, B, and C are unit of account, medium of exchange, and store of value.
  2. Joseph Schumpeter’s theory of creative destruction fundamentally describes: a. A process of constant and systematic mistakes followed by bankruptcy. b. A process of constant innovation followed by a “weeding out” period. c. A process of constant reorganizing of regulations, trying to stay ahead of banks that find their way around regulations. d. A & B e. None of the above. The idea is that there are many unique ideas, but only through the market process will the desirable ones thrive and the undesirables die out.
  3. The efficient market hypothesis suggests: a. There must be many experts in each area to make the market efficient. b. Unexploited profit opportunities do not exist. c. People are rational. d. A & C e. None of the above Actually there only needs to be a few experts and rationality suggests EMH, not the other way around. However, because it is efficient, money is not “left on the table.”
  4. Which must describe the actions of a rational person? a. That they act randomly. b. That they are coldly logical. c. That they never make mistakes. d. B & C e. None of the above Rationality doesn’t mean cold logic or a perfect assessor of risk. Rational people act with purpose and they do so based on what they believe will best serve them. They, of course, can be wrong about what best serves them (for example, if you see a movie you thought was going to be good but you actually hated it does not mean you sacrificed rationality).
  5. The Dow Jones Industrial Average components are meant to reflect what?

socially induced institution which granted people the freedom to reject “bad”

money assuaged Gresham’s Law (which requires that people can’t discriminate

between the two types of money). For whatever reason, this institution did not

extend to the distinction between the factory-made and hand-made.

  1. You can be wrong all the time and still have rational expectations.

True. Rational expectations require that (a) the agent updates predictions with

available and relevant information and (b) engages in no systematic error.

Consistently using all such information does not prohibit incorrect estimations or

incorrect estimates would rarely occur. Simultaneously, if the agent overestimates

one day and then underestimates by the same magnitude the next time and

continues to oscillate, they are always wrong, but the sum of these errors equal

zero.

  1. Suppose I despise seeing the value of my assets decline. Then I would be sure to take advantage of the higher returns in the stock market and invest my money there.

False. If seeing the value of the assets decline was so painful, loss aversion would

be a major consideration for me when I invest. However, stocks are volatile and I

am likely to experience the pain of seeing my assets’ value fall. While my decision

to invest is naturally contingent on my degree of loss aversion and the size of the

expected return, I certainly wouldn’t “be sure” to invest in stocks.

  1. Cigarettes in the POW camp only fulfilled two of the three functions of money.

False. The cigarettes in the camp fulfilled all three functions of money. They were

used in every transaction as a commonly swapped good (medium of exchange.

They were used to quote the value of different items for decision-making purposes

(unit of account). They were held for relatively long periods of time without losing

worth and were usable as the prisoners needed them and its opportunities for use

were not dependent on when currency holders acquired them (store of value).

Part III: Short Answer. Answer the following. 15 points each.

  1. Consider a new index (computed the same way the Dow is) of four stocks: J.S. Mills; Locke Industries; Hayek, Inc.; and Smith. Currently, their stock prices are 83, 92, 116, and 213, respectively. Suppose Smith decides to split their stock, tripling its volume. Assuming this is the first stock split this index has ever witnessed, calculate the value of the stock before and after the split. What is the new divisor for the index? (Remember to show your work.)

First, consider the value before the split.

Next, determine the new price of the stock.

Since the volume tripled, each Smith stock would see its price fall by one-third.

Finally, set the old index value to the new equation, swapping the “4” with a

new divisor, D, and solve for D.

126 = (83 + 92 + 116 + 71) / D = 362 / D;

D = 362 / 126 = 2.

  1. In Other People’s Money , Danny DeVito plays an infamous liquidator who buys a struggling company in order to sell off its parts. At the end of the movie he pleads with his fellow stockholders to liquate: You know, at one time there must've been dozens of companies making buggy whips. And I'll bet the last company around was the one that made the best goddamn buggy whip you ever saw. Now how would you have liked to have been a stockholder in that company? You invested in a business and this business is dead. Let's have the intelligence, let's have the decency to sign the death certificate, collect the insurance, and invest in something with a future. Analyze DeVito’s speech, keeping in mind creative destruction and the nature of growth.

Obsolescence is an ever-present threat to any product. The most cutting-edge of

inventions can be rendered inferior by the introduction of a new product using

even a minor difference. The constant threat of irrelevance comes from the

development of new ideas—the creation—and its development is in part fueled by

the abandonment of the archaic—the destruction. The rewards of wealth that come

from moving resources from old ideas to new one hastens the progress of society.

As outsides with no intrinsic attachment to the firm, one could argue the “heartless

investor” is much more capable of moving forward. The firm once famous for its

buggy whips (or VHS tapes, or pagers, or vacuum tubes) might be run by someone

reluctant to let the firm die, even if its time has come. Creative destruction, even in

investment, motives people to think about the potential. As DeVito argues,

investment is not about preserving the past, but building the future. It is the

forward thinking that leads to products which enhance our lives and grow our

economy.