ECON 330 EXAM 2 CHAPTER 10

With a 10% reserve requirement ratio, a $100 deposit into New Bank means that the maximum amount New Bank could lend is

90

Which of the following statements is false about the bank balance sheet?

Bank capital is recorded as an asset on the bank balance sheet.

Which of the following statements most accurately describes the task of bank asset management?

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

which statement is true about checkable deposits?

Checkable deposits are payable on demand.

which statement is false about checkable deposits?

Checkable deposits are the primary source of bank funds.

Which of the following are primary concerns of the bank manager?

Maintaining sufficient reserves to minimize the cost to the bank of deposit outflows

A bank failure occurs whenever

a bank cannot satisfy its obligations to pay its depositors and have enough reserves to meet its reserve requirements.

Banks face the problem of ________ in loan markets because bad credit risks are the ones most likely to seek bank loans.

adverse selection

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

adverse selection

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.

adverse selection

If a bankʹs liabilities are more sensitive to interest rate movements than are its assets, then

an increase in interest rates will reduce bank profits

All else the same, if a bankʹs liabilities are more sensitive to interest rate fluctuations than are its assets, then ________ in interest rates will ________ bank profits.

an increase, reduce

Of the following, which would be the first choice for a bank facing a reserve deficiency?

borrow from other banks

Banks that actively manage liabilities will most likely meet a reserve shortfall by

borrowing federal funds

In general, banks would prefer to acquire funds quickly by ________ rather than ________.

borrowing from the fed, reducing loans

Asset transformation can be described as

borrowing short and lending long

Which of the following are reported as liabilities on a bankʹs balance sheet?

checkable deposits and discount loans

Credit risk management tools include

collateral

Property promised to the lender as compensation if the borrower defaults is called ________.

collateral

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

credit rationing

If the First National Bank has a gap equal to a negative $30 million, then a 5 percentage point increase in interest rates will cause profits to

decline by 1.5 million

If a bank has excess reserves greater than the amount of a deposit outflow, the outflow will result in equal reductions in

deposits and reserves

Bank loans from the Federal Reserve are called ________ and represent a ________ of funds.

discount loans, source

From the standpoint of ________, specialization in lending is surprising but makes perfect sense when one considers the ________ problem.

diversification, adverse selection

The amount of assets per dollar of equity capital is called the

equity multiplier

Banks that suffered significant losses in the 1980s made the mistake of

failing to diversify their loan portfolio

Risk that is related to the uncertainty about interest rate movements is called

interest-rate risk

Holding large amounts of bank capital helps prevent bank failures because

it can be used to absorb the losses resulting from bad loans.

Because ________ are less liquid for the depositor than ________, they earn higher interest rates.

passbook savings, checkable deposits

Banks hold excess and secondary reserves to

provide for deposit outflows

Which of the following are reported as assets on a bankʹs balance sheet?

reserves

Which of the following bank assets is the most liquid?

reserves

Net profit after taxes per dollar of assets is a basic measure of bank profitability called

return on assets

Banksʹ asset portfolios include state and local government securities because

their interest payments are tax deductible for federal income taxes.

Secondary reserves are so called because

they can be converted to cash with low transaction costs

Because ________ are less liquid for the depositor than ________, they earn higher interest rates.

time deposits, passbook savings

In the absence of regulation, banks would probably hold

too little capital

Bank capital is equal to ________ minus ________.

total assets, total liabilities

Which of the following is not a source of borrowings for a bank?

transaction deposits

The largest percentage of banksʹ holdings of securities consist of

treasury and government agency securities

Bank reserves include

vault cash and deposits at the fed

n recent years the interest paid on checkable and time deposits has accounted for around ________ of total bank operating expenses, while the costs involved in servicing accounts have been approximately ________ of operating expenses.

25 percent, 50 percent

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

25,000

Which of the following statements are true about the bank balance sheet?

A bankʹs balance sheet shows that total assets equal total liabilities plus equity capital.

A bank will want to hold more excess reserves (everything else equal) when

brokerage commissions on selling bonds increase.

A bank with insufficient reserves can increase its reserves by

calling in loans

________ may antagonize customers and thus can be a very costly way of acquiring funds to meet an unexpected deposit outflow.

calling in loans

Conditions that likely contributed to a credit crunch in 2008 include:

capital shortfalls caused in part by falling real estate prices.

Holding all else constant, when a bank receives the funds for a deposited check,

cash items in the process of collection fall by the amount of the check.

Which of the following are not reported as assets on a bankʹs balance sheet?

checkable deposits

Through correspondent banking, large banks provide services to small banks, including

foreign exchange transactions

The difference of rate-sensitive liabilities and rate-sensitive assets is known as the

gap

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

high, short-term

As the costs associated with deposit outflows ________, the banks willingness to hold excess reserves will ________.

increase, increase

When a new depositor opens a checking account at the First National Bank, the bankʹs assets ________ and its liabilities ________.

increase, increase

Which of the following has not resulted from more active liability management on the part of banks?

increased bank holdings of cash items

Modern liability management has resulted in

increased sales of certificates of deposits to raise funds.

When you deposit a $50 bill in the Security Pacific National Bank,

its assets increase by 50

A bank is insolvent when

its liabilities exceed its assets

When you deposit $50 in currency at Old National Bank,

its liabilities increase by 50

A bank that wants to monitor the check payment practices of its commercial borrowers, so that moral hazard can be prevented, will require borrowers to

keep compensating balances in a checking account at the bank.

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.

liabilities, assets

Bank capital is listed on the ________ side of the bankʹs balance sheet because it represents a ________ of funds.

liability, source

Bankersʹ 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

liquidity management

A bankʹs 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

loan commitment

Bankʹs make their profits primarily by issuing ________.

loans

The most important category of assets on a bankʹs balance sheet is

loans

Unanticipated moral hazard contingencies can be reduced by

long-term costumer relationships

When Jane Brown writes a $100 check to her nephew (who lives in another state), Ms. Brownʹs bank ________ assets of $100 and ________ liabilities of $100.

loses, loses

To reduce moral hazard problems, banks include restrictive covenants in loan contracts. In order for these restrictive covenants to be effective, banks must also

monitor and enforce them

Because borrowers, once they have a loan, are more likely to invest in high-risk investment projects, banks face the

moral hazard problem

If a bank has ________ rate-sensitive assets than liabilities, then ________ in interest rates will increase bank profits.

more, an increase

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.

more, decline, rise

Because checking accounts are ________ liquid for the depositor than passbook savings, they earn ________ interest rates.

more, lower

Which of the following would a bank not hold as insurance against the highest cost of deposit outflow-bank failure?

mortgages

Which of the following are transaction deposits?

negotiable order of withdraw accounts

Which of the following is not a nontransaction deposit?

negotiable order of withdrawal accounts

Large-denomination CDs are ________, so that like a bond they can be resold in a ________ market before they mature.

negotiable, secondary

The goals of bank asset management include

purchasing securities with high returns and low risk.

When banks offer borrowers smaller loans than they have requested, banks are said to

ration credit

Long-term customer relationships ________ the cost of information collection and make it easier to ________ credit risks.

reduce, screen

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

A $5 million deposit outflow from a bank has the immediate effect of

reducing deposits and reserves by $5 million.

The fraction of checkable deposits that banks are required by regulation to hold are

required reserves

Of the following methods that banks might use to reduce moral hazard problems, the one not legally permitted in the United States is the

requirement that firms place on their board of directors an officer from the bank.

Provisions in loan contracts that prohibit borrowers from engaging in specified risky activities are called

restrictive covenants

Net profit after taxes per dollar of equity capital is a basic measure of bank profitability called

return on equity

Banks acquire the funds that they use to purchase income-earning assets from such sources as

savings accounts

If, after a deposit outflow, a bank needs an additional $3 million to meet its reserve requirements, the bank can

sell $3 million of securities.

Which of the following would not be a way to increase the return on equity?

sell more bank stock

Secondary reserves include

short-term treasury securities

In general, banks make profits by selling ________ liabilities and buying ________ assets.

short-term, longer-term

If a bank needs to raise the amount of capital relative to assets, a bank manager might choose to

shrink the size of the bank

The share of checkable deposits in total bank liabilities has

shrunk over time

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.

specialization in lending, diversifying

Which of the following are bank assets?

the building owned by the bank

For a given return on assets, the lower is bank capital,

the higher is the return for the owners of the bank.

When a $10 check written on the First National Bank of Chicago is deposited in an account at Citibank, then

the liabilities of citibank increase by 10

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 bankʹs final balance sheet,

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

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

the reserves at First National fall by $50.