Chapter 17 - Macroeconomic and Industry Analysis

Chapter 17
Macroeconomic and Industry Analysis

Multiple Choice Questions

1. A top down analysis of a firm starts with ____________.

A. the relative value of the firm
B. the absolute value of the firm
C. the domestic economy
D. the global economy
E. the industry outlook

A top down analysis of a firm starts with the global economy.

Difficulty: Easy

2. An example of a highly cyclical industry is ________.

A. the automobile industry
B. the tobacco industry
C. the food industry
D. A and B
E. B and C

Consumer durables, such as automobiles, are highly cyclical as purchases can be delayed until
good times. Necessities, low-ticket items, and addictive products are purchased in good times
and bad.

Difficulty: Easy

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3. Demand-side economics is concerned with _______.
A. government spending and tax levels
B. monetary policy
C. fiscal policy
D. A and B
E. A, B, and C

Demand-side economics is concerned with monetary and fiscal policy (government spending
and taxing).

Difficulty: Easy

4. The most widely used monetary tool is ___________.

A. altering the discount rate
B. altering the reserve requirements
C. open market operations
D. altering marginal tax rates
E. none of the above

The Federal Reserve's open market operations are the most widely used and most effective
monetary tool for influencing interest rates.

Difficulty: Easy

5. The "real", or inflation-adjusted, exchange rate, is

A. the balance of trade.
B. the budget deficit.
C. the purchasing power ratio.
D. unimportant to the U.S economy.
E. none of the above.

The ratio of one country's purchasing power to another's is called the "real", or inflation
adjusted, exchange rate, and is an important measure of the relative costs of domestic versus
foreign goods.

Difficulty: Easy
Chapter 17 - Macroeconomic and Industry Analysis
7. Monetary policy is determined by
A. government budget decisions.
B. presidential mandates.
C. the board of Governors of the Federal Reserve System.
D. congressional actions.
E. none of the above

The Board of Governors of the Federal Reserve System determines monetary policy through
open market operations, changes in the discount rate and reserve requirement adjustments.

Difficulty: Easy

8. A trough is ________.
A. a transition from an expansion in the business cycle to the start of a contraction
B. a transition from a contraction in the business cycle to the start of an expansion
C. a depression that lasts more than three years.
D. only something used by farmers to feed pigs and not an investment term
E. none of the above

The trough occurs when the economy has hit "rock bottom" in the business cycle and
recovery is ahead.

Difficulty: Easy

9. A peak is ________.
A. a transition from an expansion in the business cycle to the start of a contraction
B. a transition from a contraction in the business cycle to the start of an expansion
C. a depression that lasts more than three years.
D. only something used by farmers to feed pigs and not an investment term
E. none of the above

The peak occurs when the economy has hit the top in the business cycle.

Difficulty: Easy

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10. If the economy is growing, firms with high operating leverage will experience
__________.
A. higher increases in profits than firms with low operating leverage.
B. similar increases in profits as firms with low operating leverage.
C. smaller increases in profits than firms with low operating leverage.
D. no change in profits.
E. none of the above.

As sales increase, firms with high operating leverage spread these fixed costs over more units
and thus increase profits.

Difficulty: Easy

11. If the economy is shrinking, firms with high operating leverage will experience
__________.
A. higher decreases in profits than firms with low operating leverage.
B. similar decreases in profits as firms with low operating leverage.
C. smaller decreases in profits than firms with low operating leverage.
D. no change in profits.
E. none of the above.

As sales decrease, firms with high operating leverage spread these fixed costs over fewer units
and thus decrease profits.

Difficulty: Easy

12. If the economy is growing, firms with low operating leverage will experience
__________.
A. higher increases in profits than firms with high operating leverage.
B. similar increases in profits as firms with high operating leverage.
C. smaller increases in profits than firms with high operating leverage.
D. no change in profits.
E. none of the above.

As sales increase, firms with high operating leverage spread these fixed costs over more units
and thus increase profits.

Difficulty: Easy
Chapter 17 - Macroeconomic and Industry Analysis
13. If the economy is shrinking, firms with low operating leverage will experience
__________.
A. higher decreases in profits than firms with high operating leverage.
B. similar decreases in profits as firms with high operating leverage.
C. smaller decreases in profits than firms with high operating leverage.
D. no change in profits.
E. none of the above.

As sales decrease, firms with high operating leverage spread these fixed costs over fewer units
and thus decrease profits.

Difficulty: Easy

16. A rapidly growing GDP indicates a(n) ______ economy with ______ opportunity for a
firm to increase sales.
A. stagnant; little
B. stagnant; ample
C. expanding; little
D. expanding; ample
E. stable; no

GDP is a measure of the productive output of the country and indicated the opportunities
firms have to expand sales.

Difficulty: Easy

17. A declining GDP indicates a(n) ______ economy with ______ opportunity for a firm to
increase sales.
A. stagnant; little
B. stagnant; ample
C. expanding; little
D. expanding; ample
E. stable; no

GDP is a measure of the productive output of the country and indicated the opportunities
firms have to expand sales.

Difficulty: Easy

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18. The average duration of unemployment and changes in the consumer price index for
services are _________.
A. leading economic indicators
B. coincidental economic indicators
C. lagging economic indicators
D. composite economic indicators
E. none of the above

These indicators (C) lag the general economy, and are indicators that the economy is about to
change directions.

Difficulty: Moderate

19. A firm in an industry that is very sensitive to the business cycle will likely have a stock
beta ___________.
A. greater than 1.0
B. equal to 1.0
C. less than 1.0 but greater than 0.0
D. equal to or less than 0.0
E. There is no relationship between beta and sensitivity to the business cycle.

Cyclical stocks are more volatile than the market in general, and thus have betas greater than
1.0.

Difficulty: Moderate

20. If the economy were going into a recession, an attractive industry to invest in would be the
________ industry.
A. automobile
B. medical services
C. construction
D. A and C
E. B and C

Medical services are necessities, and thus perform about the same regardless of the business
cycle. Automobile and construction industries are cyclical, and perform poorly during
recessions.
Chapter 17 - Macroeconomic and Industry Analysis

Difficulty: Easy

21. The stock price index and contracts and new orders for nondefense capital goods are
A. leading economic indicators.
B. coincidental economic indicators.
C. lagging economic indicators.
D. not useful as economic indicators.
E. none of the above.

Contracts and orders for plant and equipment are indicative of future economic times, and
thus are leading economic indicators. The stock price index is one of the best leading
economic indicators, a reflection of market efficiency.

Difficulty: Moderate

23. Assume the U.S. government was to decide to increase the budget deficit. This action will
most likely cause __________ to increase
A. interest rates
B. government borrowing
C. unemployment
D. both A and B
E. none of the above

Increasing the deficit raises government borrowing, increases the demand for funds and thus
increases the interest rates. Deficit spending is also used to stimulate the economy by
encouraging increasing the output of economy.

Difficulty: Easy

25. Assume that the Federal Reserve decreases the money supply. This action will cause
________ to decrease.
A. interest rates
B. the unemployment rate
C. investment in the economy
D. trade balance
E. none of the above

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Decreasing the money supply is an economic contraction strategy, resulting in a decreased
output of the economy.

Difficulty: Easy

26. If the currency of your country is depreciating, the result should be to ______ exports and
to _______ imports.
A. stimulate, stimulate
B. stimulate, discourage
C. discourage, stimulate
D. discourage, discourage
E. not affect, not affect

Depreciating currency means that country's goods and services are cheaper and thus that
country's exports are stimulated. Likewise, goods and services of other countries are now
more expensive; and thus imports are discouraged.

Difficulty: Moderate

27. If the currency of your country is appreciating, the result should be to ______ exports and
to _______ imports.
A. stimulate, stimulate
B. stimulate, discourage
C. discourage, stimulate
D. discourage, discourage
E. not affect, not affect

An appreciating currency means that country's goods and services are more expensive to
foreigners and thus that country's exports are discourages. Likewise, goods and services of
other countries are now less expensive; and thus imports are stimulated.

Difficulty: Moderate

28. Increases in the money supply will cause demand for investment and consumption goods
to _______ in the short run and cause prices to ________ in the long run.
A. increase, increase
B. increase, decrease
C. decrease, increase
D. decrease, decrease
E. be unaffected, be unaffected
Chapter 17 - Macroeconomic and Industry Analysis
An increase in the money supply results in increased demand for goods and services, which
ultimately is reflected in higher prices for these goods and services.

Difficulty: Moderate

30. If interest rates increase, business investment expenditures are likely to ______ and
consumer durable expenditures are likely to _________.
A. increase, increase
B. increase, decrease
C. decrease, increase
D. decrease, decrease
E. be unaffected, be unaffected.

As interest rates increase, it becomes too expensive for businesses to increase their investment
expenditures and the fewer durable goods produced become more expensive.

Difficulty: Moderate

31. Fiscal policy generally has a _______ direct impact than monetary policy on the economy,
and the formulation and implementation of fiscal policy is ______ than that of monetary
policy.
A. more, quicker
B. more, slower
C. less, quicker
D. less, slower
E. Cannot tell from the information given.

Fiscal policy has a more direct impact on the economy than does monetary policy. However,
the formulation and implementation of fiscal policy is much slower than monetary policy.
Monetary policy is determined by the Federal Reserve System. Fiscal policy must be
deliberated, passed, and implemented by both the executive and legislative branches of the
federal government.

Difficulty: Moderate

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32. Fiscal policy is difficult to implement quickly because
A. it requires political negotiations.
B. much of government spending is nondiscretionary and cannot be changed.
C. increases in tax rates affect consumer spending gradually.
D. A and B.
E. A and C.

Fiscal policy must be negotiated and can change only discretionary items within the budget,
making it more difficult to implement. However, fiscal policy changes affect consumer
spending almost immediately.

Difficulty: Easy

Two firms, A and B, both produce widgets. The price of widgets is $1 each. Firm A has total
fixed costs of $500,000 and variable costs of 50 cents per widget. Firm B has total fixed costs
of $240,000 and variable costs of 75 cents per widget. The corporate tax rate is 40%. If the
economy is strong, each firm will sell 1,200,000 widgets. If the economy enters a recession,
each firm will sell 1,100,000 widgets.

34. If the economy enters a recession, the after-tax profit of Firm A will be ________.
A. $0
B. $6,000
C. $30,000
D. $60,000
E. none of the above

1.0($1,100,000) - 500,000 - 0.5($1,100,000) = ($50,000)(1-.4) = $30,000

Chapter 17 - Macroeconomic and Industry Analysis

Difficulty: Moderate

35. If the economy enters a recession, the after-tax profit of Firm B will be _______.
A. $0
B. $6,000
C. $36,000
D. $60,000
E. none of the above

$1,100,000 - $240,000 - 0.75(1,100,000) = $-35,000 (1 - 0.4) = -$21,000.

Difficulty: Moderate

36. If the economy is strong, the after-tax profit of Firm A will be _______.
A. $0
B. $6,000
C. $36,000
D. $60,000
E. none of the above

$1,200,000 - $500,000 FC- 0.5(1,200,000) VC = $100,000 (1 - 0.4) = $60,000.

Difficulty: Moderate

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37. If the economy is strong, the after-tax profit of Firm B will be __________.
A. $0
B. $6,000
C. $36,000
D. $60,000
E. none of the above

$1,200,000 - $240,000 FC - 0.75(1,200,000) VC = $60,000 (1 - 0.40) = $36,000.

Difficulty: Moderate

38. Calculate firm A's degree of operating leverage.

A. 11.0
B. 2.86
C. 9.09
D. 1.00
E. none of the above.

Based on test bank questions 17.34 and 17.37, DOL = [(60,000 - 30,000)/30,000]/[(1,200,000
- 1,100,000)/(1,100,000) = 1.000/.0909 = 11.0.

Difficulty: Difficult

39. Calculate firm B's degree of operating leverage.

A. .714
B. 9.09
C. 29.86
D. 7.14
E. none of the above.

Based on test bank questions 17.35 and 17.37, DOL = [(36,000 + 21,000)/21,000]/[(1,200,000
- 1,100,000)/(1,100,000) = 2.7143/.0909 = 29.86

Difficulty: Difficult
Chapter 17 - Macroeconomic and Industry Analysis

40. Classifying firms into groups, such as _________ provides an alternative to the industry
life cycle.
A. slow-growers
B. stalwarts
C. countercyclicals
D. A and B
E. A and C

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The groups in this classification are slow-growers, stalwarts, fast-growers, cyclicals,
turnarounds, and asset plays.

Difficulty: Easy

41. Supply-side economists wishing to stimulate the economy are most likely to recommend
A. a decrease in the money supply.
B. a decrease in production output.
C. an increase in the real interest rate
D. a decrease in the tax rate.
E. none of the above.

Supply-siders argue that lowering tax rates stimulates investment.

Difficulty: Moderate

42. Which of the following are not examples of defensive industries?

A. food producers.
B. durable goods producers.
C. pharmaceutical firms.
D. public utilities
E. B and C

B represents a cyclical industry, while the others are examples of defensive industries.

Difficulty: Easy

43. Which of the following are examples of defensive industries?

A. food producers.
B. durable goods producers.
C. pharmaceutical firms.
D. public utilities
E. A, C and D

B represents a cyclical industry, while the others are examples of defensive industries.
Chapter 17 - Macroeconomic and Industry Analysis

Difficulty: Easy

44. ________ is a proposition that a strong proponent of supply side economics would most
likely stress.
A. Higher marginal tax rates will lead to a reduction in the size of the budget deficit and lower
interest rates as they depend on government revenues.
B. Higher marginal tax rates promote economic inefficiency and thereby retard aggregate
output as they encourage investors to undertake low productivity projects with substantial tax
shelter benefits
C. Income redistribution payments will exert little impact on real aggregate supply as they do
not consume resources directly.
D. A tax reduction will increase the disposable income of households, and thus, the primary
impact of a tax reduction on aggregate supply will stem from the influence of the tax change
on the size of the budget deficit or surplus.
E. None of the above is a likely statement for a supply-side proponent.

Supply-side economists focus on incentives and marginal tax rates.

Difficulty: Moderate

46. In the start-up stage of the industry life cycle

A. it is difficult to predict which firms will succeed and which firms will fail.
B. industry growth is very rapid.
C. firms pay a high level of dividends.
D. A and B.
E. B and C.

In the start-up stage, it is very difficult to predict which firms will succeed and which firms
will fail, as no historical data are available. In this stage, industry growth is very rapid (if the
industry is successful) and firms pay little or no dividends.

Difficulty: Easy

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47. In the consolidation stage of the industry life-cycle
A. it is difficult to predict which firms will succeed and which firms will fail.
B. industry growth is very rapid.
C. the performance of firms will more closely track the performance of the overall industry.
D. A and B.
E. B and C.

In the consolidation stage of the industry life-cycle the performance of firms will more closely
track the performance of the overall industry.

Difficulty: Easy

48. In the maturity stage of the industry life cycle

A. the product has reached full potential.
B. profit margins are narrower.
C. producers are forced to compete on price to a greater extent.
D. A and B only.
E. A, B, and C.

In the maturity stage of the industry life cycle the product has reached full potential, profit
margins are narrower, and producers are forced to compete on price to a greater extent.

Difficulty: Easy

49. In the decline stage of the industry life cycle

A. the product may have reached obsolescence.
B. the industry will grow at a rate less than the overall economy.
C. the industry may experience negative growth.
D. A and B only.
E. A, B, and C.

In the decline stage of the industry life cycle the product may have reached obsolescence, the
industry will grow at a rate less than the overall economy, and the industry may experience
negative growth.

Difficulty: Easy
Chapter 17 - Macroeconomic and Industry Analysis
50. A variety of factors relating to industry structure affect the performance of the firm,
including
A. threat of entry.
B. rivalry between existing competitors.
C. the state of the economy.
D. A and C.
E. A and B.

A variety of factors relating to industry structure affect the performance of the firm, including
threat of entry and rivalry between existing competitors.

Difficulty: Easy

51. The process of estimating the dividends and earnings that can be expected from the firm
based on determinants of value is called
A. business cycle forecasting.
B. macroeconomic forecasting.
C. technical analysis.
D. fundamental analysis.
E. none of the above.

Fundamental analysis is the analysis of the determinants of value such as earnings prospects.
It includes both macroeconomic analysis and industry analysis.

Difficulty: Easy

54. The life cycle stage in which industry leaders are likely to emerge is the
A. start-up stage.
B. maturity stage.
C. consolidation stage.
D. relative decline stage.
E. all of the above.

Industry leaders are most likely to emerge during the consolidation stage, after products
become established.

Difficulty: Easy

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55. Investment manager Peter Lynch refers to firms that are in bankruptcy or soon might be
as
A. slow growers.
B. stalwarts.
C. cyclicals.
D. asset plays.
E. turnarounds.

Lynch classifies firms into six categories. Turnarounds may offer tremendous investment
potential if they can recover.

Difficulty: Easy

59. In recent years, P/E multiples have

A. fallen dramatically.
B. risen dramatically.
C. fallen slightly.
D. risen slightly.
E. remained level, on average.

Since 1994 P/Es have risen dramatically as shown in Figure 17.2.

Difficulty: Easy

60. In recent years, P/E multiples for S&P 500 companies have
A. ranged from -1 to -10.
B. ranged from 1 to 8.
C. ranged from 6 to 10.
D. ranged from 12 to 25.
E. ranged from 20 to more than 50.

Since 1994 P/Es have risen dramatically but fall within the range of 12 to 25 (as shown in
Figure 17.2).

Difficulty: Easy

Difficulty: Easy
Chapter 17 - Macroeconomic and Industry Analysis

Difficulty: Easy

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65. Investors can ______ invest in an industry with the highest expected return by purchasing
______.
A. most easily; industry-specific iShares
B. not; industry-specific iShares
C. most easily; industry-specific ADRs
D. not; individual stocks
E. none of the above

Investors can most easily invest in an industry with the highest expected return by purchasing
industry-specific iShares.

Difficulty: Easy

67. An example of a positive demand shock is

A. a decrease in the money supply.
B. a decrease in government spending.
C. a decrease in foreign export demand.
D. a decrease in the price of imported oil.
E. a decrease in tax rates.

Increases in the items mentioned in answers A, B, and C would be favorable demand shocks.
Imported oil price changes are supply shocks. A decrease in tax rates is the only favorable
demand shock mentioned.

Difficulty: Easy

68. An example of a negative demand shock is

A. a decrease in the money supply.
B. a decrease in government spending.
C. an increase in foreign export demand.
D. a decrease in the price of imported oil.
E. A and B.

Increases in the items mentioned in answers A, B, and C would be favorable demand shocks.
Imported oil price changes are supply shocks. A decrease in tax rates is the only favorable
demand shock mentioned.

Difficulty: Easy
Chapter 17 - Macroeconomic and Industry Analysis
71. Sector rotation
A. should always be carried out.
B. is never worthwhile.
C. is shifting the portfolio more heavily toward an industry or sector that is expected to
perform well in the future.
D. can be implemented costlessly.
E. none of the above

Sector rotation is shifting the portfolio more heavily toward an industry or sector that is
expected to perform well in the future.

Difficulty: Easy

72. According to Michael Porter, there are five determinants of competition. An example of
_____ is when new entrants to an industry our pressure on prices and profits.
A. Threat of Entry
B. Rivalry between Existing Competitors
C. Pressure from Substitute Products
D. Bargaining power of Buyers
E. Bargaining power of Suppliers

According to Michael Porter, there are five determinants of competition. An example of

Threat of Entry is when new entrants to an industry our pressure on prices and profits.

Difficulty: Easy

73. According to Michael Porter, there are five determinants of competition. An example of
_____ is when competitors seek to expand their share of the market.
A. Threat of Entry
B. Rivalry between Existing Competitors
C. Pressure from Substitute Products
D. Bargaining power of Buyers
E. Bargaining power of Suppliers

According to Michael Porter, there are five determinants of competition. An example of

Rivalry between Existing Competitors is when competitors seek to expand their share of the
market.

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Difficulty: Easy

74. According to Michael Porter, there are five determinants of competition. An example of
_____ is when the availability limits the prices that can be charged to customers.
A. Threat of Entry
B. Rivalry between Existing Competitors
C. Pressure from Substitute Products
D. Bargaining power of Buyers
E. Bargaining power of Suppliers

According to Michael Porter, there are five determinants of competition. An example of

Pressure from Substitute Products is when the availability limits the prices that can be charged
to customers.

Difficulty: Easy

75. According to Michael Porter, there are five determinants of competition. An example of
_____ is when a buyer purchases a large fraction of an industry's output and can demand price
concessions.
A. Threat of Entry
B. Rivalry between Existing Competitors
C. Pressure from Substitute Products
D. Bargaining power of Buyers
E. Bargaining power of Suppliers

According to Michael Porter, there are five determinants of competition. An example of

Bargaining power of Buyers is when a buyer purchases a large fraction of an industry's output
and can demand price concessions.

Difficulty: Easy

Two firms, C and D, both produce coat hangers. The price of coat hangers is $1.20 each.
Firm C has total fixed costs of $750,000 and variable costs of 30 cents per widget. Firm D has
total fixed costs of $400,000 and variable costs of 50 cents per widget. The corporate tax rate
is 40%. If the economy is strong, each firm will sell 2,000,000 widgets. If the economy enters
a recession, each firm will sell 1,400,000 widgets.
Chapter 17 - Macroeconomic and Industry Analysis
79. If the economy enters a recession, the total revenue of Firm C will be ________.
A. $1,680,000
B. $1,400,000
C. $2,000,000
D. $0
E. none of the above

$1,400,000(1.20) = $1,680,000

Difficulty: Moderate

80. If the economy enters a recession, the total cost of Firm C will be ________.
A. $1,680,000
B. $1,170,000
C. $750,000
D. $420,000
E. none of the above

$1,400,000(.30) +750,000 = $1,170,000

Difficulty: Moderate

81. If the economy enters a recession, the before tax profit of Firm C will be ________.
A. $1,680,000
B. $1,170,000
C. $510,000
D. $204,000
E. none of the above

$1,680,000 - 1,170,000 = 510,000 (see response to questions 67 and 68).

Difficulty: Moderate

82. If the economy enters a recession, the tax of Firm C will be ________.
A. $1,680,000
B. $750,000
C. $510,000
D. $204,000
E. none of the above

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$510,000(.4) = 204,000 (see response to question 69)

Difficulty: Moderate

83. If the economy enters a recession, the after tax profit of Firm C will be ________.
A. $1,680,000
B. $750,000
C. $510,000
D. $204,000
E. $306,000

$510,000 - 204,000 = 306,000 (see response to questions 69 and 70)

Difficulty: Moderate

84. If the economy is strong, the total revenue of Firm C will be ________.
A. $1,680,000
B. $1,400,000
C. $2,000,000
D. $2,400,000
E. none of the above

$2,000,000(1.20) = $2,400,000

Difficulty: Moderate

85. If the economy is strong, the total cost of Firm C will be ________.
A. $1,680,000
B. $1,170,000
C. $1,305,000
D. $420,000
E. none of the above.

$2,000,000(.30) + 750,000 = $1,350,000.

Difficulty: Moderate
Chapter 17 - Macroeconomic and Industry Analysis
86. If the economy is strong, the before tax profit of Firm C will be ________.
A. $1,680,000
B. $1,050,000
C. $510,000
D. $204,000
E. none of the above

$2,400,000 - 1,350,000 = 1,050,000 (see response to questions 72 and 73)

Difficulty: Moderate

87. If the economy is strong, the tax of Firm C will be ________.

A. $420,000
B. $750,000
C. $510,000
D. $204,000
E. none of the above

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$1,050,000(.4) = 420,000 (see response to question 74)

Difficulty: Moderate

88. If the economy is strong, the after-tax profit of Firm C will be _______.
A. $0
B. $6,000
C. $36,000
D. $60,000
E. $630,000

$1,050,000 - 420,000 = 630,000 (see response to questions 74 and 75)

Difficulty: Moderate

89. If a firm's sales decrease by 15% and profits decrease by 20% during a recession, the
firms operating leverage is ____________?
A. 1.33
B. 0.75
C. 5
D. -5
E. none of the above

-20/-15 = 1.33

Difficulty: Moderate