ECON 303 Chapter 2 Study Questions
1) Assume that you borrow $2000 at 10% annual interest to finance a new business project. For this loan to be profitable, the minimum amount this project must generate in annual earnings is
(a) $400.
(b) $201.
(c) $200.
(d) $199.
(e) $101.
2) You can borrow $5000 to finance a new business venture. This new venture will generate annual earnings of $251. The maximum interest rate that you would pay on the borrowed funds and still increase your income is
(a) 25%.
(b) 12.5%.
(c) 10%.
(d) 5%.
(e) 0.5%.
3) Which of the following can be described as involving direct finance?
(a) A corporation takes out loans from a bank.
(b) People buy shares in a mutual fund.
(c) A corporation buys a short-term corporate security in a secondary market.
(d) An insurance company buys shares of common stock in the primary markets.
4) Which of the following statements about the characteristics of debt and equity are true?
(a) They can both be long-term financial instruments.
(b) They can both be short-term financial instruments.
(c) Debt is a claim on the issuer’s assets, but equity is a claim on the issuer’s income.
(d) Both (a) and (b) of the above.
(e) Both (a) and (c) of the above.
5) Which of the following are secondary markets?
(a) The New York Stock Exchange
(b) The U.S. government bond market
(c) The over-the-counter stock market
(d) The options markets
(e) All of the above
6) An important function of secondary markets is to
(a) make it easier to sell financial instruments to raise cash.
(b) raise funds for corporations through the sale of securities.
(c) create a market for bank demand deposits.
(d) create a market for newly constructed houses.
(e) make it easier for governments to raise taxes.
7) Secondary markets make financial instruments more
(a) solid.
(b) fluid.
(c) liquid.
(d) risky.
(e) vapid.
8) A corporation acquires new funds only when its securities are sold
(a) in the secondary market by an investment bank.
(b) in the primary market by an investment bank.
(c) in the secondary market by a stock exchange broker.
(d) in the secondary market by a commercial bank.
9) Typically, borrowers have superior information relative to lenders about the potential returns and risks associated with an investment project. The difference in information is called __________, and it creates the __________ problem.
(a) adverse selection; moral hazard
(b) asymmetric information; risk sharing
(c) asymmetric information; adverse selection
(d) adverse selection; risk sharing
(e) moral hazard; adverse selection
10) U.S. Treasury bills
(a) are the safest of all money market instruments.
(b) sell at a discount because they have no interest payments.
(c) are the most liquid of the money market securities.
(d) are all of the above.
(e) are only (b) and (c) of the above.