Economic Analysis and Business Information
What the exam tests
Economic questions ask you to connect policy, the business cycle, and interest rates to security prices. Know the Fed's core tools - open market operations, the discount rate, reserve requirements, and interest on reserve balances. When the Fed buys securities, reserves rise, the fed funds rate falls, and bond prices generally rise. Fiscal policy (taxing and spending) belongs to Congress and the Treasury, not the Fed.
Sort the indicators correctly: leading (yield curve, building permits, initial jobless claims, stock prices, M2, manufacturers' new orders), coincident (industrial production, personal income, payrolls), lagging (CPI, prime rate, average duration of unemployment, inventories-to-sales). The yield curve - normal, flat, inverted - signals policy stance; inversion historically precedes recession.
Inflation measures: CPI (fixed basket, includes imports), PPI (producer level), core (ex food and energy), GDP deflator (all domestic output). Real return = nominal return − inflation.
Traps
- Mixing monetary and fiscal tools in the answer choices.
- Treating indicators as precise forecasts rather than probabilistic signals.
- Believing a strong dollar helps exporters (it hurts them; it helps importers).
- Forgetting that unanticipated inflation transfers wealth from lenders to borrowers.
Rule of thumb
Fed action hits short rates first and hardest; long rates follow inflation expectations. Tightening typically flattens or inverts the curve before it lifts 30-year yields.
Worked example
The Fed sells $2 billion of Treasuries. Bank reserves fall, the fed funds rate rises, short-term yields rise, and existing bond prices fall (prices and yields move inversely). Equity valuations face pressure from higher discount rates, with long-duration growth stocks hit hardest.