Money and Banking, Chapter 9, Part 3

With respect to the last several decades, which of the following statements is true? A) Bank net worth has been relatively stable, but the riskiness of bank activities has increased substantially. B) Bank net worth has declined substantially, but the riskiness of bank activities has remained relatively unchanged. C) Bank net worth has declined substantially, but the riskiness of bank activities has also declined substantially. D) Bank net worth and the riskiness of bank activities has remained relatively stable.

A) Bank net worth has been relatively stable, but the riskiness of bank activities has increased substantially.

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.

A) Banks seek the highest returns possible subject to minimizing risk and making adequate provisions for liquidity.

An example of the time inconsistency problem in banking can be described as A) borrowing short term and lending long term. B) borrowing long term and lending short term. C) borrowing and lending only for the short term. D) borrowing and lending for the long term.

A) borrowing short term and lending long term.

If a banker strongly expects interest rates to fall in the future, her best strategy for the present is A) to increase the duration of the bank's assets. B) to buy short-term bonds. C) to sell long-term certificates of deposit. D) to increase the duration of the bank's liabilities.

A) to increase the duration of the bank's assets.

Why do higher interest rates increase adverse selection problems in the loan market? A) Higher interest rates reduce the gains from economies of scale. B) As interest rates rise, the creditworthiness of the average loan applicant declines. C) Higher interest rates reduce information problems in the loan market. D) At higher interest rates fewer investment projects are profitable.

B) As interest rates rise, the creditworthiness of the average loan applicant declines.

Which of the following is not a source of funds for commercial banks? A) Borrowing from the Fed B) Treasury Securities C) Checkable Deposits D) Bank Capital (net worth) E) None of the above; they are all sources of funds for banks.

B) Treasury Securities

Banks earn a profit by A) increasing transactions costs such as interest rates. B) charging savers and borrowers fees for reducing transactions costs. C) passing transactions costs on to the borrowers. D) eliminating transactions costs.

B) charging savers and borrowers fees for reducing transactions costs.

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

B) compensating balances.

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

B) diversification; adverse selection

U.S. bank consolidation will likely result in A) a shift in assets from larger banks to smaller banks. B) increased competition. C) less international competition. D) the elimination of small state banks.

B) increased competition.

Unanticipated moral hazard contingencies can be reduced by A) screening. B) long-term customer relationships. C) specialization in lending. D) credit rationing.

B) long-term customer relationships.

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.

B) the liabilities of the bank increase by $1,000,000.

The leverage ratio is the ratio of a bank's A) assets divided by its liabilities. B) income divided by its assets. C) capital divided by its total assets. D) capital divided by its total liabilities.

C) capital divided by its total assets.

In banking, the spread refers to the difference between the A) interest rate on long-term bonds and the interest rate on short-term bonds. B) interest rate on consumer loans and the interest rate on home mortgages. C) return earned from lending and the cost of the needed funds. D) the difference between asset value and liability value.

C) return earned from lending and the cost of the needed funds.

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.

C) too little capital.

The result of the too-big-to-fail policy is that _____ banks will take on _____ risks, making bank failures more likely. A) small; fewer B) small; greater C) big; fewer D) big; greater

D) big; greater

If, after a deposit outflow, a bank needs an additional $3 million to meet its reserve requirements, the bank will most likely do which of the following: A) reduce deposits by $3 million. B) increase loans by $3 million. C) sell $3 in private corporate bonds it holds. D) sell $3 million of government securities.

D) sell $3 million of government securities.

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

D) vault cash and bank deposits at the Fed.