chapter 9

** Modern liability management has resulted in A) increased sales of negotiable CDs to raise funds. B) increase importance of deposits as a source of funds. C) reduced borrowing by banks in the overnight loan market. D) failure by banks to coordinate management of assets and liabilities.

Answer: A

A $100 deposit into my checking account at My Bank increases my checkable deposits by $100, and the bank's ________ by $100. A) reserves B) loans C) capital D) securities

Answer: A

A $5 million deposit outflow from a bank has the immediate effect of A) reducing deposits and reserves by $5 million. B) reducing deposits and loans by $5 million. C) reducing deposits and securities by $5 million. D) reducing deposits and capital by $5 million.

Answer: A

A bank failure occurs whenever A) a bank cannot satisfy its obligations to pay its depositors and other creditors. B) a bank suffers a large deposit outflow. C) a bank has to call in a large volume of loans. D) a bank refuses to make new loans.

Answer: A

A bank is insolvent when A) its liabilities exceed its assets. B) its assets exceed its liabilities. C) its capital exceeds its liabilities. D) its assets increase in value.

Answer: A

Bank capital has both benefits and costs for the bank owners. Higher bank capital ________ the likelihood of bankruptcy, but higher bank capital ________ the return on equity for a given return on assets. A) reduces; reduces B) increases; increases C) reduces; increases D) increases; reduces

Answer: A

Bank capital is equal to ________ minus ________. A) total assets; total liabilities B) total liabilities; total assets C) total assets; total reserves D) total liabilities; total borrowings

Answer: A

Banks face the problem of ________ in loan markets because bad credit risks are the ones most likely to seek bank loans. A) adverse selection B) moral hazard C) moral suasion D) intentional fraud

Answer: A

Banks hold capital because A) they are required to by regulatory authorities. B) higher capital increases the returns to the owners. C) it increases the likelihood of bankruptcy. D) higher capital increases the return on equity.

Answer: A

Banks' asset portfolios include state and local government securities because A) they help to attract business from these government entities. B) banks consider them helpful in attracting accounts of Federal employees. C) the Federal Reserve requires member banks to buy securities from state and local governments located within their respective Federal Reserve districts. D) there is no default-risk with state and local government securities.

Answer: A

Collateral requirements lessen the consequences of ________ because the collateral reduces the lender's losses in the case of a loan default and it reduces ________ because the borrower has more to lose from a default. A) adverse selection; moral hazard B) moral hazard; adverse selection C) adverse selection; diversification D) diversification; moral hazard

Answer: A

Holding all else constant, when a bank receives the funds for a deposited check A) cash items in the process of collection fall by the amount of the check. B) bank assets increase by the amount of the check. C) bank liabilities decrease by the amount of the check. D) bank reserves increase by the amount of required reserves.

Answer: A

If a bank has $10 million of checkable deposits, a required reserve ratio of 10 percent, and it holds $2 million in reserves, then it will not have enough reserves to support a deposit outflow of A) $1.2 million. B) $1.1 million. C) $1 million. D) $900,000.

Answer: A

If a bank has $200,000 of checkable deposits, a required reserve ratio of 20 percent, and it holds $80,000 in reserves, then the maximum deposit outflow it can sustain without altering its balance sheet is A) $50,000. B) $40,000. C) $30,000. D) $25,000.

Answer: A

If a bank has excess reserves greater than the amount of a deposit outflow, the outflow will result in equal reductions in A) deposits and reserves. B) deposits and loans. C) capital and reserves. D) capital and loans.

Answer: A

If a bank needs to acquire funds quickly to meet an unexpected deposit outflow, the bank could A) borrow from another bank in the federal funds market. B) buy U.S. Treasury bills. C) increase loans. D) buy corporate bonds.

Answer: A

If a bank's liabilities are more sensitive to interest rate movements than are its assets, then A) an increase in interest rates will reduce bank profits. B) a decrease in interest rates will reduce bank profits. C) interest rates changes will not impact bank profits. D) an increase in interest rates will increase bank profits.

Answer: A

In one sense ________ appears surprising since it means that the bank is not ________ its portfolio of loans and thus is exposing itself to more risk. A) specialization in lending; diversifying B) specialization in lending; rationing C) credit rationing; diversifying D) screening; rationing

Answer: A

Net profit after taxes per dollar of assets is a basic measure of bank profitability called A) return on assets. B) return on capital. C) return on equity. D) return on investment.

Answer: A

Of the following, which would be the last choice for a bank facing a reserve deficiency? A) Call in loans. B) Borrow from the Fed. C) Sell securities. D) Borrow from other banks.

Answer: A

Property promised to the lender as compensation if the borrower defaults is called A) collateral. B) deductibles. C) restrictive covenants. D) contingencies.

Answer: A

The largest percentage of banks' holdings of securities consist of A) Treasury and government agency securities. B) tax-exempt municipal securities. C) state and local government securities. D) corporate securities.

Answer: A

When $1 million is deposited at a bank, the required reserve ratio is 20 percent, and the bank chooses not to make any loans but to hold excess reserves instead, then, in the bank's final balance sheet A) the assets at the bank increase by $1 million. B) the liabilities of the bank decrease by $1 million. C) reserves increase by $200,000. D) liabilities increase by $200,000.

Answer: A

When a $10 check written on the First National Bank of Chicago is deposited in an account at Citibank, then A) the liabilities of the First National Bank decrease by $10. B) the reserves of the First National Bank increase by $10. C) the liabilities of Citibank decrease by $10. D) the assets of Citibank decrease by $10.

Answer: A

When a new depositor opens a checking account at the First National Bank, the bank's assets ________ and its liabilities ________. A) increase; increase B) increase; decrease C) decrease; increase D) decrease; decrease

Answer: A

Which of the following are bank assets? A) the building owned by the bank B) a discount loan C) a negotiable CD D) a customer's checking account

Answer: A

Which of the following are primary concerns of the bank manager? A) maintaining sufficient reserves to minimize the cost to the bank of deposit outflows B) extending loans to borrowers who will pay low interest rates, but who are poor credit risks C) acquiring funds at a relatively high cost, so that profitable lending opportunities can be realized D) maintaining high levels of capital and thus maximizing the returns to the owners

Answer: A

Which of the following are reported as liabilities on a bank's balance sheet? A) discount loans B) reserves C) U.S. Treasury securities D) real estate loans

Answer: A

Which of the following has NOT resulted from more active liability management on the part of banks? A) increased bank holdings of cash items B) aggressive targeting of goals for asset growth by banks C) increased use of negotiable CDs to raise funds D) an increased proportion of bank assets held in loans

Answer: A

Which of the following statements are TRUE? A) Checkable deposits are payable on demand. B) Checkable deposits do not include NOW accounts. C) Checkable deposits are the primary source of bank funds. D) Checkable deposits are assets for the bank.

Answer: A

Which of the following statements most accurately describes the task of bank asset management? A) Banks seek the highest returns possible subject to minimizing risk and making adequate provisions for liquidity. B) Banks seek to have the highest liquidity possible subject to earning a positive rate of return on their operations. C) Banks seek to prevent bank failure at all cost; since a failed bank earns no profit, liquidity needs supersede the desire for profits. D) Banks seek to acquire funds in the least costly way.

Answer: A

With a 10% reserve requirement ratio, a $100 deposit into New Bank means that the maximum amount New Bank could lend is A) $90. B) $100. C) $10. D) $110.

Answer: A

A bank will want to hold more excess reserves (everything else equal) when A) it expects to have deposit inflows in the near future. B) brokerage commissions on selling bonds increase. C) the cost of selling loans falls. D) the discount rate decreases.

Answer: B

A bank with insufficient reserves can increase its reserves by A) lending federal funds. B) calling in loans. C) buying short-term Treasury securities. D) buying municipal bonds.

Answer: B

A deposit outflow results in equal reductions in A) loans and reserves. B) assets and liabilities. C) reserves and capital. D) assets and capital.

Answer: B

Asset transformation can be described as A) borrowing long and lending short. B) borrowing short and lending long. C) borrowing and lending only for the short term. D) borrowing and lending for the long term.

Answer: B

Bank ________ is/are listed on the liability side of the bank's balance sheet. A) reserves B) capital C) securities D) cash items

Answer: B

Bank loans from the Federal Reserve are called ________ and represent a ________ of funds. A) discount loans; use B) discount loans; source C) fed funds; use D) fed funds; source

Answer: B

Bankers' concerns regarding the optimal mix of excess reserves, secondary reserves, borrowings from the Fed, and borrowings from other banks to deal with deposit outflows is an example of A) liability management. B) liquidity management. C) managing interest rate risk. D) managing credit risk.

Answer: B

Banks acquire the funds that they use to purchase income-earning assets from such sources as A) cash items in the process of collection. B) savings accounts. C) reserves. D) deposits at other banks.

Answer: B

Banks hold excess and secondary reserves to A) reduce the interest-rate risk problem. B) provide for unexpected deposit outflows. C) satisfy margin requirements. D) achieve higher earnings than they can with loans.

Answer: B

Banks that actively manage liabilities will most likely meet a reserve shortfall by A) calling in loans. B) borrowing federal funds. C) selling municipal bonds. D) seeking new deposits.

Answer: B

Credit risk management tools include A) deductibles. B) collateral. C) interest rate swaps. D) duration analysis.

Answer: B

For a given return on assets, the lower is bank capital A) the lower is the return for the owners of the bank. B) the higher is the return for the owners of the bank. C) the lower is the credit risk for the owners of the bank. D) the lower the possibility of bank failure.

Answer: B

If a bank has $100,000 of checkable deposits, a required reserve ratio of 20 percent, and it holds $40,000 in reserves, then the maximum deposit outflow it can sustain without altering its balance sheet is A) $30,000. B) $25,000. C) $20,000. D) $10,000.

Answer: B

If a bank has ________ rate-sensitive assets than liabilities, a ________ in interest rates will reduce bank profits, while a ________ in interest rates will raise bank profits. A) more; rise; decline B) more; decline; rise C) fewer; decline; decline D) fewer; rise; rise

Answer: B

If a bank has ________ rate-sensitive assets than liabilities, then ________ in interest rates will increase bank profits. A) more; a decline B) more; an increase C) fewer; an increase D) fewer; a surge

Answer: B

If borrowers with the most risky investment projects seek bank loans in higher proportion to those borrowers with the safest investment projects, banks are said to face the problem of A) adverse credit risk. B) adverse selection. C) moral hazard. D) lemon lenders.

Answer: B

In general, banks make profits by selling ________ liabilities and buying ________ assets. A) long-term; shorter-term B) short-term; longer-term C) illiquid; liquid D) risky; risk-free

Answer: B

In order to reduce the ________ problem in loan markets, bankers collect information from prospective borrowers to screen out the bad credit risks from the good ones. A) moral hazard B) adverse selection C) moral suasion D) adverse lending

Answer: B

Measuring the sensitivity of bank profits to changes in interest rates by multiplying the gap times the change in the interest rate is called A) basic duration analysis. B) basic gap analysis. C) interest-exposure analysis. D) gap-exposure analysis.

Answer: B

Risk that is related to the uncertainty about interest rate movements is called A) default risk. B) interest-rate risk. C) the problem of moral hazard. D) security risk.

Answer: B

The amount of checkable deposits that banks are required by regulation to hold are the A) excess reserves. B) required reserves. C) vault cash. D) total reserves.

Answer: B

Through correspondent banking, large banks provide services to small banks, including A) loan guarantees. B) foreign exchange transactions. C) issuing stock. D) debt reduction.

Answer: B

When $1 million is deposited at a bank, the required reserve ratio is 20 percent, and the bank chooses not to hold any excess reserves but makes loans instead, then, in the bank's final balance sheet A) the assets at the bank increase by $800,000. B) the liabilities of the bank increase by $1,000,000. C) the liabilities of the bank increase by $800,000. D) reserves increase by $160,000.

Answer: B

When you deposit a $50 bill in the Security Pacific National Bank A) its liabilities decrease by $50. B) its assets increase by $50. C) its reserves decrease by $50. D) its cash items in the process of collection increase by $50.

Answer: B

Which of the following are reported as assets on a bank's balance sheet? A) borrowings B) reserves C) savings deposits D) bank capital

Answer: B

Which of the following are reported as liabilities on a bank's balance sheet? A) reserves B) checkable deposits C) consumer loans D) deposits with other banks

Answer: B

Which of the following bank assets is the most liquid? A) consumer loans B) reserves C) state and local government securities D) U.S. government securities

Answer: B

Which of the following statements is FALSE? A) Checkable deposits are usually the lowest cost source of bank funds. B) Checkable deposits are the primary source of bank funds. C) Checkable deposits are payable on demand. D) Checkable deposits include NOW accounts.

Answer: B

f a bank has $50 million in rate-sensitive assets and $20 million in rate-sensitive liabilities then A) an increase in interest rates will reduce bank profits. B) a decrease in interest rates will reduce bank profits. C) interest rate changes will not impact bank profits. D) a decrease in interest rates will increase bank profits.

Answer: B

ll else the same, if a bank's liabilities are more sensitive to interest rate fluctuations than are its assets, then ________ in interest rates will ________ bank profits. A) an increase; increase B) an increase; reduce C) a decline; reduce D) a decline; not affect

Answer: B

** A bank's commitment to provide a firm with loans up to pre-specified limit at an interest rate that is tied to a market interest rate is called A) an adjustable gap loan. B) an adjustable portfolio loan. C) loan commitment. D) pre-credit loan line.

Answer: C

All of the following are nontransaction deposits EXCEPT A) savings accounts. B) small-denomination time deposits. C) checkable deposits. D) certificates of deposit.

Answer: C

As the costs associated with deposit outflows ________, the banks willingness to hold excess reserves will ________. A) decrease; increase B) increase; decrease C) increase; increase D) decrease; not be affected

Answer: C

Bank reserves include A) deposits at the Fed and short-term treasury securities. B) vault cash and short-term Treasury securities. C) vault cash and deposits at the Fed. D) deposits at other banks and deposits at the Fed.

Answer: C

Bank's make their profits primarily by issuing A) equity. B) negotiable CDs. C) loans. D) NOW accounts.

Answer: C

Banks earn profits by selling ________ with attractive combinations of liquidity, risk, and return, and using the proceeds to buy ________ with a different set of characteristics. A) loans; deposits B) securities; deposits C) liabilities; assets D) assets; liabilities

Answer: C

Banks that suffered significant losses in the 1980s made the mistake of A) holding too many liquid assets. B) minimizing default risk. C) failing to diversify their loan portfolio. D) holding only safe securities.

Answer: C

Because ________ are less liquid for the depositor than ________, they earn higher interest rates. A) money market deposit accounts; time deposits B) checkable deposits; savings accounts C) savings accounts; checkable deposits D) savings accounts; time deposits

Answer: C

Because of their ________ liquidity, ________ U.S. government securities are called secondary reserves. A) low; short-term B) low; long-term C) high; short-term D) high; long-term

Answer: C

Holding large amounts of bank capital helps prevent bank failures because A) it means that the bank has a higher income. B) it makes loans easier to sell. C) it can be used to absorb the losses resulting from bad loans. D) it makes it easier to call in loans.

Answer: C

If a bank needs to raise the amount of capital relative to assets, a bank manager might choose to A) buy back bank stock. B) pay higher dividends. C) shrink the size of the bank. D) sell securities the bank owns and put the funds into the reserve account.

Answer: C

If, after a deposit outflow, a bank needs an additional $3 million to meet its reserve requirements, the bank can A) reduce deposits by $3 million. B) increase loans by $3 million. C) sell $3 million of securities. D) repay its discount loans from the Fed.

Answer: C

In general, banks would prefer to acquire funds quickly by ________ rather than ________. A) reducing loans; selling securities B) reducing loans; borrowing from the Fed C) borrowing from the Fed; reducing loans D) "calling in" loans; selling securities

Answer: C

In the absence of regulation, banks would probably hold A) too much capital, reducing the efficiency of the payments system. B) too much capital, reducing the profitability of banks. C) too little capital. D) too much capital, making it more difficult to obtain loans.

Answer: C

Large-denomination CDs are ________, so that like a bond they can be resold in a ________ market before they mature. A) nonnegotiable; secondary B) nonnegotiable; primary C) negotiable; secondary D) negotiable; primary

Answer: C

Net profit after taxes per dollar of equity capital is a basic measure of bank profitability called A) return on assets. B) return on capital. C) return on equity. D) return on investment.

Answer: C

The amount of assets per dollar of equity capital is called the A) asset ratio. B) equity ratio. C) equity multiplier. D) asset multiplier.

Answer: C

The most important category of assets on a bank's balance sheet is A) other assets. B) securities. C) loans. D) cash items in the process of collection.

Answer: C

When a $10 check written on the First National Bank of Chicago is deposited in an account at Citibank, then A) the liabilities of the First National Bank increase by $10. B) the reserves of the First National Bank increase by $ 10. C) the liabilities of Citibank increase by $10. D) the assets of Citibank fall by $10.

Answer: C

When a lender refuses to make a loan, although borrowers are willing to pay the stated interest rate or even a higher rate, the bank is said to engage in A) coercive bargaining. B) strategic holding out. C) credit rationing. D) collusive behavior.

Answer: C

When you deposit $50 in currency at Old National Bank A) its assets increase by less than $50 because of reserve requirements. B) its reserves increase by less than $50 because of reserve requirements. C) its liabilities increase by $50. D) its liabilities decrease by $50.

Answer: C

When you deposit $50 in your account at First National Bank and a $100 check you have written on this account is cashed at Chemical Bank, then A) the assets of First National rise by $50. B) the assets of Chemical Bank rise by $50. C) the reserves at First National fall by $50. D) the liabilities at Chemical Bank rise by $50.

Answer: C

Which of the following are transaction deposits? A) savings accounts B) small-denomination time deposits C) checkable deposits D) certificates of deposit

Answer: C

Which of the following is NOT a source of borrowings for a bank? A) federal funds B) Eurodollars C) transaction deposits D) discount loans

Answer: C

Which of the following statements are TRUE? A) A bank's assets are its sources of funds. B) A bank's liabilities are its uses of funds. C) A bank's balance sheet shows that total assets equal total liabilities plus equity capital. D) A bank's balance sheet indicates whether or not the bank is profitable.

Answer: C

________ may antagonize customers and thus can be a very costly way of acquiring funds to meet an unexpected deposit outflow. A) Selling securities B) Selling loans C) Calling in loans D) Selling negotiable CDs

Answer: C

Banks may borrow from or lend to another bank in the Federal Funds market. A loan of excess reserves from one bank to another bank is recorded as a(n) ________ for the borrowing bank and a(n) ________ for the lending bank. A) asset; asset B) asset; liability C) liability; liability D) liability; asset

Answer: D

Because borrowers, once they have a loan, are more likely to invest in high-risk investment projects, banks face the A) adverse selection problem. B) lemon problem. C) adverse credit risk problem. D) moral hazard problem.

Answer: D

Because checking accounts are ________ liquid for the depositor than savings accounts, they earn ________ interest rates. A) less; higher B) less; lower C) more; higher D) more; lower

Answer: D

From the standpoint of ________, specialization in lending is surprising but makes perfect sense when one considers the ________ problem. A) moral hazard; diversification B) diversification; moral hazard C) adverse selection; diversification D) diversification; adverse selection

Answer: D

The difference of rate-sensitive liabilities and rate-sensitive assets is known as the A) duration. B) interest-sensitivity index. C) rate-risk index. D) gap.

Answer: D

The goals of bank asset management include A) maximizing risk. B) minimizing liquidity. C) lending at high interest rates regardless of risk. D) purchasing securities with high returns and low risk.

Answer: D

When Jane Brown writes a $100 check to her nephew and he cashes the check, Ms. Brown's bank ________ assets of $100 and ________ liabilities of $100. A) gains; gains B) gains; loses C) loses; gains D) loses; loses

Answer: D

When banks offer borrowers smaller loans than they have requested, banks are said to A) shave credit. B) rediscount the loan. C) raze credit. D) ration credit.

Answer: D

Which of the following are NOT reported as assets on a bank's balance sheet? A) cash items in the process of collection B) deposits with other banks C) U.S. Treasury securities D) checkable deposits

Answer: D

Which of the following statements is FALSE? A) A bank's assets are its uses of funds. B) A bank issues liabilities to acquire funds. C) The bank's assets provide the bank with income. D) Bank capital is recorded as an asset on the bank balance sheet.

Answer: D

Which of the following would NOT be a way to increase the return on equity? A) Buy back bank stock. B) Pay higher dividends. C) Acquire new funds by selling negotiable CDs and increase assets with them. D) Sell more bank stock.

Answer: D

Which of the following would a bank NOT hold as insurance against the highest cost of deposit outflow-bank failure? A) excess reserves B) secondary reserves C) bank capital D) mortgages

Answer: D