ECON 3313 - Money & Banking

The monetary policy player that determines the borrowed reserves is the

banking system

The Federal Reserve is remarkably free from political pressure because

it has an independent source of revenue.

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.

loses; loses

Banks make use of the federal funds market in part to

manage liquidity risk.

There are two ways in which the Fed can provide additional reserves to the banking system: it can ________ government bonds or it can ________ discount loans to commercial banks.

purchase; extend

If a bank has $1000 in deposits and the required reserve ratio is 10​%, then the amount required as the​ bank's reserves is $_____.

$100 $1000 x 10% = 100

Suppose ​$200,000 is deposited at a bank. The required reserve ratio is 25 percent, and the bank chooses not to hold any excess reserves but makes loans instead. What are the​ bank's total​ loans?

$150,000 200,000 x (1-0.25) = 150,000

If you deposit a $50 check in the bank, the immediate impact on your bank's balance sheet will be a

$50 increase in reserves and a $50 increase in checkable deposits.

Which of the following does not describe an​ off-balance-sheet activity? A. A bank writes a mortgage and sells it to a life insurance company. B. A bank guarantees a​ firm's debt by signing a​ banker's acceptance. C. A bank makes a loan to a large corporate customer. D. A bank exchanges dollars for euros for a large corporate customer.

C. A bank makes a loan to a large corporate customer.

Which of the following players can affect the money supply by changing reserve requirements​? A. Banks. B. Depositors. C. The central bank.

C. The central bank.

The Federal Reserve System include the following except the A. Federal Open Market Committee. B. Federal Advisory Council. C. U.S. Treasury. D. member commercial banks.

C. U.S. Treasury.

Why have banks been losing income advantages on their assets in recent​ years? A. The growth of the commercial paper market and the development of the junk bond market have given corporations alternatives to borrowing funds from​ banks, thus eroding the competitive advantage of banks on the lending side. B The collapse of the subprime mortgage market has put banks at a comparative disadvantage because regulators are requiring them to refinance subprime mortgages with terms that are unfavorable to the banks. C. Securitization has enabled other financial institutions to originate​ loans, taking away some of the​ banks' loan business. D. Both A and C are correct. E. All of the above are correct.

D. Both A and C are correct.

Which of the following is not an asset on a​ bank's balance​ sheet? A. Reserves. B. Loans. C. Government securities. D. Checkable deposits.

D. Checkable deposits

Which of the following statements concerning the​ fourteen-year term for members of the Board of Governors is true​? A. The​ fourteen-year term allows significant dependence from political pressures. B. Most members of the Board of Governors serve out the entire fourteen-year term. C. The​ fourteen-year term is renewable. D. Members of the Board of Governors are appointed by the president for fourteen-year terms.

D. Members of the Board of Governors are appointed by the president for fourteen-year terms.

Which of the following is a benefit for a bank when it decides to increase the amount of its bank​ capital? A. The return on equity increases. B. The return on assets rises. C. The liquidity of its loans and other assets rises. D. The safety of its loans increases.

D. The safety of its loans increases.

How does the emergence of​ interest-rate risk help explain financial​ innovation?

It increases the demand for financial products and services that could reduce that risk.

When the nonbank public decides to hold more ​currency, then we expect

a fall in the money supply.

If the Fed makes a discount loan of $2 million to a commercial bank, the Fed's balance sheet will show

an increase in discount loans of $2 million and an increase in bank reserves of $2 million.

Duration analysis involves comparing the average duration of the bank's ________ to the average duration of its ________.

assets; liabilities

Loans that the Fed makes to banks appear on the balance sheet as part of its​ __________, and deposits made by banks appear on the​ Fed's balance sheet as part of its​ ____________.

assets; liabilities

If a bank needs to acquire funds quickly to meet an unexpected deposit outflow, the bank could

borrow from another ban k in the federal funds market

Required reserves are a fixed percentage of a​ bank's ___________ __________.

checkable deposits

Credit risk management tools include

collateral.

The monetary base is comprised​ of:

currency in circulation and reserves.

When the Federal Reserve sells a government bond to a primary dealer, reserves in the banking system ________ and the monetary base ________, everything else held constant.

decrease; decreases

If the Fed injects reserves into the banking system and they are held as excess reserves, then the money supply ____.

does not change.

The money supply is expected to rise when a decrease in _______________ is observed.

excess reserves

Money market mutual funds

function as interest-earning checking accounts.

The sensitivity of bank profits to changes in interest rates can be measured more directly using ___ _______, in which the amount of​ rate-sensitive liabilities is subtracted from the amount of​ rate-sensitive assets.

gap analysis

Two primary assets of the Federal Reserve System​ are:

government securities and loans to commercial banks.

The Fed can exert more precise control over ________ than it can over ________.

high-powered money; reserves

Because of their ________ liquidity, ________ U.S. government securities are called secondary reserves.

high; short-term

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.

reduces; reduces

The sum of a bank's vault cash plus its deposits at the Fed is the bank's _________.

reserves

Both ________ and ________ are Federal Reserve assets.

securities; loans to financial institutions

Securitization refers to

selling directly to investors loans or securities that were formerly held by financial intermediaries.

To conduct open market operations, the FOMC issues a directive to

the Open Market Desk at the Federal Reserve Bank of New York.

Each governor of the Board of Governors is appointed by __________.

the U.S. president.

If Steffi withdraws​ $400 in cash from her checking​ account, then

the amount of reserves decline.

The development of money market mutual funds contributed to the growth of ________ since the money market mutual funds need to hold liquid, high-quality, short-terms assets.

the commercial paper market

In the model of the money supply process, the bank's role in influencing the money supply process is represented by _______

the excess reserves

The driving force behind the securitization of mortgages and automobile loans has been

the improvement in information technology.

The majority of members of the Federal Open Market Committee are

the seven members of the Board of Governors.

If a bank's ratio of assets to capital is 25 and it's return on assets is -5%, what is its return on equity?

-125%

If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $1,000 billion, and excess reserves total $1 billion, then the money supply is ________ billion.

1,400

Table 1: First National Bank Asset: Rate-sensitive $20 million Liability: Fixed-rate $80 million Asset: Rate-sensitive $50 million Liability: Fixed-rate $50 million Refer to Table 1. Assuming that the average duration of its assets is five years, while the average duration of its liabilities is three years. Using duration analysis, a 5 percentage point increase in interest rates will cause the net worth of First National to decline by ________ of the total original asset value.

10 percent

If the required reserve ratio is 10 percent, currency in circulation is $400 billion, checkable deposits are $800 billion, and excess reserves total $0.8 billion, then the M1 money multiplier is

2.5

Which of the following players can affect the money supply by its holdings of currency versus deposits? A. Depositors. B. Banks. C. The central bank.

A. Depositors.

In which of the following assets are commercial banks in the United States NOT allowed to invest checkable deposits? A. corporate bonds B. U.S. Treasury bonds C. municipal bonds D. home mortgages

A. corporate bonds

How do sweep accounts and money market mutual funds allow banks to avoid reserve​ requirements?

Although they function as​ interest-earning deposits, these accounts are not legally deposits and so are not subject to reserve requirements.

How does the emergence of​ interest-rate risk help explain financial​ innovation?

An increase in​ interest-rate risk increases the demand for financial innovation.

In the simple deposit expansion model, if the banking system has excess reserves of $75, and the required reserve ratio is 20%, the potential expansion of checkable deposits is

B. $375

Why does the United States operate under a dual banking system ​(Check all that​ apply.) A. Dual banking systems encourage competition between​ state-chartered banks and federally chartered banks. B. Federally chartered banks help to stabilize the banking system and are less prone to failure. Your answer is correct. C. Dual banking systems are always more efficient and economically sound than other banking systems. D. There is skepticism of centralized power in the U.S. banking system. E. Financial innovation is more likely to occur in a dual banking system.

B. Federally chartered banks help to stabilize the banking system and are less prone to failure. D. There is skepticism of centralized power in the U.S. banking system.

The volume of checkable deposits relative to total bank liabilities ​has: A. expanded dramatically over time. B. declined over time. C. expanded moderately over time. D. remained virtually unchanged since 1960.

B. declined over time.

Each of the Federal Reserve banks is considered a​ quasi-public institution because of the following statements EXCEPT A. many of the directors of district banks are elected by member banks. B. it uses its staff of professional economists to research topics related to the conduct of monetary policy. C. it is owned by the private commercial banks in its district that are members of the Federal Reserve System. D. member banks have purchased stock in their district Federal Reserve bank.

B. it uses its staff of professional economists to research topics related to the conduct of monetary policy.

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

B. reserves

Why is loophole mining so prevalent in the banking industry in the United​ States?

Banks engage in loophole mining in order to avoid regulatory constraints that restrict their ability to earn profits.

Which of the following statements about​ interest-rate risk is​ true? A. An increase in interest rates always increases commercial bank profits. B. A commercial bank usually has a larger​ "gap" than an equivalent size savings and loan. C. If a bank has more​ rate-sensitive liabilities than​ assets, an increase in interest rates reduces bank profits. D. Banks tend to have more​ rate-sensitive assets than liabilities.

C. If a bank has more​ rate-sensitive liabilities than​ assets, an increase in interest rates reduces bank profits.

The policy tools of the Fed are the following except A. open market operations. B. reserve requirements. C. bond creation. D. the discount rate.

C. bond creation.

Which of the following is NOT a bank liability? A. CDs B. checkable deposits C. mortgage loans D. borrowings from the Federal Reserve

C. mortgage loans

The players in the money supply process include all of the following except​: A. banks. B. depositors. C. the Treasury. D. the central bank.

C. the Treasury.

If a bank sells​ $10 million of bonds to the Fed to pay back​ $10 million on the loan it​ owes, what will be the effect on the level of checkable​ deposits? Assume that the required reserve ratio on checkable deposits is​ 10%, banks do not hold any excess​ reserves, and the​ public's holdings of currency do not change.

Checkable deposits do not change

What happens to checkable deposits in the banking system when the Fed lends an additional​ $1 million to the First National​ Bank, assuming that the required reserve ratio on checkable deposits is​ 10%, banks do not hold any excess​ reserves, and the​ public's holdings of currency do not​ change?

Checkable deposits rise by​ $10 million.

While the Fed enjoys a relativity high degree of independence for a government​ agency, it feels political pressure from the president and Congress because

Congress could limit Fed power through legislation.

The case for Federal Reserve independence does NOT include the idea that A. a Federal Reserve under the control of Congress or the president might make the so-called political business cycle more pronounced. B. political pressure would impart an inflationary bias to monetary policy. C. a politically insulated Fed would be more concerned with long-run objectives and thus be a defender of a sound dollar and a stable price level. D. policy is always performed better by an elite group such as the Fed.

D. policy is always performed better by an elite group such as the Fed.

The twelve Federal Reserve banks are involved in monetary policy in several ways including​: A. issuing bonds. B. being the final authority for the discount rate. C. deciding which municipalities can obtain discount loans. D. voting on the purchase and sale of government securities that affect both interest rates and the amount of reserves in the banking system

D. voting on the purchase and sale of government securities that affect both interest rates and the amount of reserves in the banking system

By​ definition, when the Fed conducts an open market​ purchase, it​ is: A. decreasing the quantity of reserves. B. buying bonds. C. increasing the quantity of reserves. D. selling bonds. E. Both B and C are correct.

E. Both B and C are correct.

​"The Fed can perfectly control the amount of the monetary​ base, but has less control over the composition of the monetary​ base." Is this statement​ true, false, or​ uncertain? Explain your answer.

False. Since the Fed cannot control the amount of discount lending to financial​ institutions, it does not have perfect control over the amount of reserves in the banking system and hence the monetary base.

The monetary policy player that determines the nonborrowed monetary base is the

Federal Reserve System

If the Fed sells​ $2 million of bonds to the First National​ Bank, what happens to reserves and the monetary​ base? Complete the​ T-accounts below to explain your answer.

First National Bank Reserves -2 mil, Securities +2 mill Federal Reserves Securities -2 mil, Reserves -2 mil Reserves fall by $2 million, and the monetary base falls by $2 million

If the Fed lends five banks an additional total of​ $100 million but depositors withdraw​ $50 million and hold it as​ currency, what happens to reserves and the monetary​ base? Use​ T-accounts to explain your answer.

Five Banks Reserves +50 mil, Discount Loans + 100 mil, Deposits -50 mil Federal Reserve Discount Loans +100, Reserves +$50, Currency +50 Reserves increase by $50 million, and the monetary base increases by $100 million.

If a bank doubles the amount of its capital and ROA stays​ constant, what will happen to​ ROE?

Given the​ ROA, if bank capital​ doubles, then ROE will fall by half.

In October​ 2008, the Federal Reserve began paying interest on the amount of excess reserves held by banks.​ How, if at​ all, might this affect the multiplier process and the money​ supply?

Holding the monetary base​ constant, paying interest on reserves should raise the excess reserves​ ratio, which reduces the money multiplier and reduces the money supply.

Following the financial crisis in​ 2008, the Federal Reserve began injecting the banking system with massive amounts of​ liquidity, and at the same​ time, very little lending occurred. As a​ result, the M1 money multiplier was below 1 for most of the time from October 2008 through 2011. How does this relate to your answer to the previous​ step?

If large amounts of reserves enter the banking system but are held as excess​ reserves, it is possible for the money multiplier to fall below one.

Assuming initially that the required reserve ratio = 10%, the currency-deposit ratio = 75%, and the excess reserve ratio = 156%, an increase in the currency deposit ratio to 150% causes the M1 money multiplier to ________, everything else held constant.

Increase from 0.73 to 0.79

Gap Analysis measures the difference between a​ bank's:

rate-sensitive liabilities and​ rate-sensitive assets

If the president of a bank told you that the bank was so well run that it has never had to call in​ loans, sell​ securities, or borrow as a result of a deposit​ outflow, would you be willing to buy stock in that​ bank? Why or why​ not?

No, the bank is holding too many excess​ reserves, and bank profits may be low.

If the bank you own has no excess reserves and a sound customer comes in asking for a​ loan, should you automatically turn the customer​ down, explaining that you​ don't have any excess reserves to lend​ out? Why or why​ not? What options are available for you to provide the funds your customer​ needs?

No. There are several ways that reserves can be acquired. For​ example, the bank can borrow at the discount window or in the federal funds​ market, or it can acquire funds by issuing negotiable CDs.

____-________ _____________ is the purchase and sale of government securities by the Federal Reserve that affect both interest rates and the amount of reserves in the banking system.

Open-market operations

Why do equity holders care more about ROE than about​ ROA?

ROE measures how much equity holders are​ earning, while ROA measures how efficiently the bank is being run.

Why have banks been losing cost advantages in acquiring funds in recent​ years?

The increased cost of funds from higher interest rates and the abolishment of Regulation Q.

Predict what will happen to the money supply if there is a sharp rise in the currency ratio.

The money supply falls

Suppose that the required reserve ratio is 9​%, currency in circulation is ​$610 ​billion, the amount of checkable deposits is ​$940 ​billion, and excess reserves are ​$13 billion. The money supply is ​____ The currency deposit ratio is ___ The excess reserves ratio is ___ The money multiplier is ___ Suppose the central bank conducts an unusually large open market purchase of bonds held by banks of ​$1,400 billion due to a sharp contraction in the economy. Assuming the ratios you calculated in the previous steps are the​ same, the money supply should increase to _____ Suppose the central bank conducts the same open market purchase as in the previous​ step, except that banks choose to hold all of these proceeds as excess reserves rather than loan them​ out, due to fear of a financial crisis. Assuming that currency and deposits remain the​ same, the new amount of excess reserves is ​___ The new excess reserves ratio is ___ The money supply is ___ The money multiplier is ___

The money supply is ​$1550 billion The currency deposit ratio is .649 The excess reserves ratio is .014 The money multiplier is 2.19 the money supply should increase to $4,616 bil the new amount of excess reserves is ​$1413 bil The new excess reserves ratio is 1.50 The money supply is 1550 bil The money multiplier is .74

The Fed buys​ $100 million of bonds from the public and also lowers the reserve requirement r. What will happen to the money​ supply?

The money supply will increase.

When the Fed supplies the banking system with an extra dollar of reserves, deposits ________ by ________ than one dollar-a process called multiple deposit creation.

increase; more

Disintermediation resulted from

interest rate ceilings combined with inflation-driven increases in interest rates.

In order to reduce the​ ________ problem in loan​ markets, banks often insist on collateral from potential borrowers.

moral hazard

The Federal Reserve Act of 1913 required all ________ banks to become members of the Federal Reserve System, while ________ banks could choose to become members of the system.

national; state

The monetary policy player that determines the currency holdings is the ____

nonbank public

A shift from currency to deposits will ________ the monetary base in the banking system.

not affect

___ - _____-____ _______ are those that generate profits for banks but are not visible on​ banks' balance sheets.

off-balance-sheet activities

Members of Congress are able to influence monetary policy, albeit indirectly, through their ability to

propose legislation that would force the Fed to submit budget requests to Congress, as must other government agencies.

The Board of Governors appoints ____ directors of each district bank.

three

The primary reason for the creation of the Federal Reserve System ​was:

to reduce or eliminate future bank panics.

Examples of off-balance-sheet activities include ________

trading activities.

Using the​ T-accounts of the First National Bank and the Second National​ Bank, describe what happens when Jane Brown writes a check for $55 on her account at the First National Bank to pay her friend Joe​ Green, who in turn deposits the check in his account at the Second National Bank.

​T-account for the First National​ Bank: Reserves - $55, Checkable Deposits -$55 ​T-account for the Second National​ Bank: Reserves $55, Checkable Deposits $55