Download Quiz 4

Quiz 4
Name:
1. What is are the fundamental differences between a broker and a dealer? Which
has a higher risk of capital losses and why?
Brokers match buyers and sellers without using their own accounts, while dealers take
positions. Dealers risk capital losses, while brokers do not.
2. You deposit $100 that you have in currency in First National Bank. The required
reserve ratio is 10 percent. How much money can First National create? How
much can the banking system as a whole create? What are potential leakages in
the expansion?
First National creates $90. The whole system creates $100*(1/.10) = $1,000. Potential
leakages are public holdings of cash, banks holding excess reserves, deposits moved to
other types of accounts.
3. What is meant by a “dual banking system”? First American Bank is a state bank
that is not a member of the Fed. Who is the regulator of First American Bank?
Dual Banking refers to the side-by-side federal and state chartering (&supervision) of
commercial banks. If First American is insured, the FDIC is the primary regulator. If
First American is uninsured, then the state is the primary regulator.
4. What is the major provision of the McFadden Act? What was the motivation
behind passing this act? What act repealed the McFadden Act?
The McFadden Act prohibited banks from branching across state lines. The motivation
was to prevent the formation of a few large, nationwide banking conglomerates. The
Riegle-Neil Interstate Banking and Branching Efficiency Act repealed the McFadden Act.
5. What is moral hazard? Why does deposit insurance inherently involve moral
hazard?
Moral hazard refers to the reduction in market discipline that comes with the presence of
a safety net to prevent losses. The presence of deposit insurance or the belief that
regulators will take mitigating actions in the event of a financial crisis creates moral
hazard. With moral hazard, banks and other intermediaries have an incentive to invest in
riskier loans and investment. When depositors are insured by a government guarantee,
they have little incentive to monitor the riskiness of their banks – creating a moral hazard
problem.
6. What are the three major policy tools that the Fed can use to promote the overall
health of the economy? What is the most widely used tool? 1. Raising and
lowering the discount rate 2. Changing the reserve requirements 3. Open Market
Operations. The most widely used took is OMO.
7. A bank has reserves of $72,000,000 and demand deposits of $450,000,000. The
reserve requirement on demand deposits is 15% and is 0% on other deposits.
What are the required reserves of the bank? How much does the bank have in
excess reserves? How much can the bank safely lend?
Required Reserves = 0.15*450,000,000 = $67,500,000; Excess reserves = $4,500,000;
The bank can safely lend $4,500,000.
8. Answer the following:
a. Who is the chairman of the board of governors of the Federal Reserve?
Alan Greenspan
b. What year was he appointed? 1987
c. What year does his term expire? 2006
d. How long are the terms of the members of the Board of Governors? 14
9. In each of the examples below, tell whether the money multiplier will increase,
decrease, or stay the same.
a. The Fed lowers the required reserve ratio. Increase (1/rdd would rise)
b. The Fed buys government securities. Stay the same.
c. Depositors become concerned about the safety of depository institutions
and there is no deposit insurance. Decrease (c/dd would rise)
d. Depository institutions do not see any creditworthy borrowers.
Decrease (e/dd would rise)
10. Answer the following about mutual funds:
a. A mutual fund owns stocks with a market value of $1 billion. If there are
2 million shares of the fund outstanding, what is the net asset value per
share? 1,000,000,000/2,000,000 = $500
b. On January 1, you invest $1,000 in a mutual fund that has a 3.75% frontend-load. How much will you have at the end of the year if the fund earns
10% for the year? What is your percentage return? $1,058.75 Your
percentage return is 5.88%.