ECON 2035 LSU Chap 2
U.S. Treasury bills are considered the safest of all money market instruments because there is almost no risk of
default
Financial institutions that accept deposits and make loans are called ________ institutions
depository
The primary liabilities of depository institutions are
deposits
The primary liabilities of a commercial bank are
deposits.
With ________ finance, borrowers obtain funds from lenders by selling them securities in the financial markets.
direct
U.S. Treasury bills pay no interest but are sold at a ________. That is, you will pay a lower purchase price than the amount you receive at maturity.
discount
Reducing risk through the purchase of assets whose returns do not always move together is
diversification
The concept of diversification is captured by the statement
don't put all your eggs in one basket
Banks can lower the cost of information production by applying one information resource to many different services. This process is called
economies of scope
If Microsoft sells a bond in London and it is denominated in dollars, the bond is a
eurobond
Bonds that are sold in a foreign country and are denominated in a currency other than that of the country in which it is sold are known as
eurobonds
When secondary market buyers and sellers of securities meet in one central location to conduct trades the market is called a(n)
exchange
Studies of the major developed countries show that when businesses go looking for funds to finance their activities they usually obtain these funds from
financial intermediaries
In the United States, loans from ________ are far ________ important for corporate finance than are securities markets
financial intermediaries; more
Although the dominance of ________ over ________ is clear in all countries, the relative importance of bond versus stock markets differs widely
financial intermediaries; securities markets
The process of indirect finance using financial intermediaries is called
financial intermediation
Bonds that are sold in a foreign country and are denominated in the country's currency in which they are sold are known as
foreign bonds
Financial markets have the basic function of
getting people with funds to lend together with people who want to borrow funds
The principal lender-savers are
households
One reason for the extraordinary growth of foreign financial markets is
increases in the pool of savings in foreign countries
Which of the following instruments is not traded in a money market?
Residential mortgages
A debt instrument sold by a bank to its depositors that pays annual interest of a given amount and at maturity pays back the original purchase price is called
a negotiable certificate of deposit
Which of the following benefit directly from any increase in the corporation's profitability?
a shareholder
If bad credit risks are the ones who most actively seek loans and, therefore, receive them from financial intermediaries, then financial intermediaries face the problem of
adverse selection
The problem created by asymmetric information before the transaction occurs is called ________, while the problem created after the transaction occurs is called ________.
adverse selection; moral hazard
A short-term debt instrument issued by well-known corporations is called
commercial paper
The primary assets of credit unions are
consumer loans
________ institutions are financial intermediaries that acquire funds at periodic intervals on a contractual basis.
contractual savings
An important financial institution that assists in the initial sale of securities in the primary market is the
investment bank
Secondary markets make financial instruments more
liquid
Which of the following is a contractual savings institution?
a life insurance company
With direct finance, funds are channeled through the financial market from the ________ directly to the ________.
savers, spenders
Which of the following can be described as involving direct finance?
A corporation issues new shares of stock.
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
$201
Which of the following statements about financial markets and securities is true?
*A) Many common stocks are traded over-the-counter, although the largest corporations usually have their shares traded at organized stock exchanges such as the New York Stock Exchange.* B) As a corporation gets a share of the broker's commission, a corporation acquires new funds whenever its securities are sold. C) Capital market securities are usually more widely traded than shorter-term securities and so tend to be more liquid. D) Because of their short-terms to maturity, the prices of money market instruments tend to fluctuate wildly. Answer: A
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
5%
Which of the following is a long-term financial instrument?
A U.S. Treasury bond
Which of the following is a depository institution?
A credit union
Which of the following financial intermediaries is not a depository institution?
A finance company
Which of the following is a depository institution?
A mutual savings bank
Which of the following are short-term financial instruments?
A repurchase agreement
Which of the following is an example of an intermediate-term debt?
A sixty-month car loan
________ work in the secondary markets matching buyers with sellers of securities
Brokers
Which of the following instruments are traded in a money market?
Commercial paper
Which of the following instruments are traded in a capital market?
Corporate bonds
Which of the following are not contractual savings institutions?
Credit Unions
U.S. dollar deposits in foreign banks outside the U.S. or in foreign branches of U.S. banks are called
Eurodollars
The countries that have made the least use of securities markets are ________ and ________; in these two countries finance from financial intermediaries has been almost ten times greater than that from securities markets.
Germany; Japan
Which of the following is not a secondary market?
IPO market
Every financial market has the following characteristic:
It channels funds from lenders-savers to borrowers-spenders
The British Banker's Association average of interbank rates for dollar deposits in the London market is called the
Libor rate
Which of the following can be described as involving direct finance?
People buy shares of common stock in the primary markets
Which of the following are not traded in a capital market?
Repurchase agreements
________ are short-term loans in which Treasury bills serve as collateral.
Repurchase agreements
Which of the following statements about financial markets and securities is true?
The maturity of a debt instrument is the number of years (term) to that instrument's expiration date.
Which of the following statements about the characteristics of debt and equities is true?
They can both be long-term financial instruments
Which of the following statements about the characteristics of debt and equity is false?
They can both be short-term financial instruments
Forty or so dealers establish a "market" in these securities by standing ready to buy and sell them.
U.S. Government Bonds
Which of the following instruments are traded in a capital market?
U.S. Government agency securities
Which of the following instruments are traded in a money market?
U.S. Treasury bills
The most liquid securities traded in the capital market are
U.S. Treasury bonds
Equity of U.S. companies can be purchased by
U.S. citizens and foreign citizens
Which of the following can be described as direct finance?
You borrow $2500 from a friend
Which of the following can be described as involving indirect finance?
You buy shares in a mutual fund
Which of the following can be described as involving indirect finance?
You make a deposit at a bank
Collateral is ________ the lender receives if the borrower does not pay back the loan.
an asset
A liquid asset is
an asset that can easily and quickly be sold to raise cash
Securities are ________ for the person who buys them, but are ________ for the individual or firm that issues them.
assets; liabilities
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
asymmetric information
Equity and debt instruments with maturities greater than one year are called ________ market instruments.
capital
Equity instruments are traded in the ________ market.
capital
Federal funds are
loans made by banks to each other.
Risk sharing is profitable for financial institutions due to
low transactions costs
Financial intermediaries provide customers with liquidity services. Liquidity services
make it easier for customers to conduct transactions
An important function of secondary markets is to
make it easier to sell financial instruments to raise funds
A financial market in which only short-term debt instruments are traded is called the ________ market
money
Because these securities are more liquid and generally have smaller price fluctuations, corporations and banks use the ________ securities to earn interest on temporary surplus funds.
money market
An example of the problem of ________ is when a corporation uses the funds raised from selling bonds to fund corporate expansion to pay for Caribbean cruises for all of its employees and their families
moral hazard
Conflicts of interest are a type of ________ problem that can happen when an institution provides multiple services.
moral hazard
The higher a security's price in the secondary market the ________ funds a firm can raise by selling securities in the ________ market.
more; primary
Bonds issued by state and local governments are called ________ bonds
municipal
In a(n) ________ market, dealers in different locations buy and sell securities to anyone who comes to them and is willing to accept their prices
over-the-counter
A breakdown of financial markets can result in
political instability
A corporation acquires new funds only when its securities are sold in the
primary market by an investment bank
Well-functioning financial markets
produce an efficient allocation of capital
Economies of scale enable financial institutions to
reduce transactions costs
Equity holders are a corporation's ________. That means the corporation must pay all of its debt holders before it pays its equity holders.
residual claimants
The process where financial intermediaries create and sell low-risk assets and use the proceeds to purchase riskier assets is known as
risk sharing
The process of asset transformation refers to the conversion of
risky assets into safer assets
Thrift institutions include
savings and loan associations, mutual savings banks, and credit unions
A financial market in which previously issued securities can be resold is called a ________ market.
secondary
If the maturity of a debt instrument is less than one year, the debt is called
short-term
An example of economies of scale in the provision of financial services is
spreading the cost of writing a standardized contract over many borrowers
When I purchase ________, I own a portion of a firm and have the right to vote on issues important to the firm and to elect its directors
stock
Long-term debt has a maturity that is
ten years or longer
Adverse selection is a problem associated with equity and debt contracts arising from
the lender's relative lack of information about the borrower's potential returns and risks of his investment activities
Prices of money market instruments undergo the least price fluctuations because of
the short terms to maturity for the securities.
Financial markets improve economic welfare because
they allow consumers to time their purchase better
The time and money spent in carrying out financial transactions are called
transaction costs
When an investment bank ________ securities, it guarantees a price for a corporation's securities and then sells them to the public.
underwrites
