Log in
Economics
1
answer
0
watching
119
views

Consider XYZ Bank that is established with $1500bn of deposits and $I000bn of equity. Its assets are some investments that are expected to pay off $2750bn in 1 years’ time. Suppose the rate of interest on safe assets is 10% a year and there is no risk premium to hold risky assets like XYZ Bank's investments.

 

  1. Suppose very shortly after being established the bank finds that it has been too optimistic

And now expects its investments to pay off $2475bn in 1 year time. What is the return to equity in the bank?

  1. -25%
  2. -50%
  3. -87.5%
  4. -100%
  5. None of A-D

 

  1. Suppose instead that the bank's liabilities were initially $2000bn of deposits with the rest

Being equity. Now what is the return to equity if the expected pay off of its investments falls to $2475bn in 1 year time?

  1. -25%
  2. -50%
  3. -87.5%
  4. -100%
  5. None of A-D

 

  1. Now suppose in the scenario of question 2 that very shortly after being established the

Bank finds that it has been too optimistic and now expects its investments to pay off $2475bn

In 1 year time and that the market now requires a premium of 10% a year to hold risky assets

Like XYZ Banks's investments. Now what is the return to equity?

  1. -25%
  2. -50%
  3. -87.5%
  4. -100%
  5. None of A-D

 

  1. Now suppose in the case Of question 3 that 'the bank's investment 'falls further, so that very

Shortly after being established the bank finds that it now expects its investments to pay

Off $2200bn in 1 year time and that the market now requires a premium of 10% a year to

Hold risky assets like XYZ Bank's investments, suppose now that the owners of the bank

Have an investment opportunity that will cost $500bn today and was certain to pay off the value

$1000bn in one year's time. Would the risk-neutral owners of the bank choose to put this?

Investment through the bank or would they prefer to invest in the project themselves using

Their own private funds?

  1. Not undertake the investment
  2. Undertake investment through 'the bank
  3. Undertake investment using private funds
  4. None of A-C

Watch
1
answer
0
watching
119
views

For unlimited access to Homework Help, a Homework+ subscription is required.

Richa Arora
Richa AroraLv10
10 Feb 2021

Unlock all answers

Get 1 free homework help answer.
Already have an account? Log in
Share

Related textbook solutions

Principles of Economics
2nd Edition, 2017
Openstax
ISBN: 9781947172364
Principles of Macroeconomics
2 Edition,
Openstax
ISBN: 9781947172388
Principles of Microeconomics
2 Edition,
Openstax
ISBN: 9781947172340

Related questions

5.M1 is:

A) currency + traveler's checks + checking deposits

B) currency +coins

C) currency + checking deposits

D) currency

6.If a bank's assets are $200 and the value of its weighted assets is $125, which is the

more restrictive capital requirement: the U.S. minimum equity ratio or the Basel Accord

requirement?

A) They are the same.

B) The United States ratio is the most restrictive.

C) The Basel Accord is the most restrictive.

D) There is not enough information provided to answer the question.

7. Which of the following includes consequences of the purchase and assumption method

of dealing with an insolvent bank?

A) The FDIC sells most of the assets and liabilities of the insolvent bank to another

bank.

B) Depositors lose their deposits and bank branches close.

C) The FDIC sells the insolvent bank's liabilities and earns a profit.

D) The bank keeps its original name.

8. Which of the following is a consequence of the payoff method of dealing with an

insolvent bank?

A) The FDIC sells the bank's assets for as much as it can get to pay off depositors.

B) The insolvent bank remains open under a new management.

C) The FDIC fund is not affected.

D) Small depositors lose 50 percent of their deposits.

9. Deposit insurance creates a moral hazard because it:

A) eliminates depositors' incentives to monitor banks.

B) reduces the cost of a bank failure for depositors.

C) encourages depositors to leave their funds in a weak bank.

D) All of the answers are correct.

10. The Basel Accord set international standards for:

A) interest rate volatility.

B) reserve ratios.

C) bank capital requirements.

D) loan risk.

11. U.S. capital requirements mandate a ________ minimum capital–assets ratio.

A) 0 percent

B) 10 percent

C) 5 percent

D) 50 percent

12. Which of the following securities are banks not allowed to hold?

A) high-rated corporate bonds

B) stocks

C) municipal bonds

D) Treasury bonds

13. A bank run is an extreme form of:

A) credit risk.

B) interest rate risk.

C) low bank esteem.

D) liquidity risk.

14. One explanation for a bank run is:

A) adaptive expectations.

B) self-fulfilling expectations.

C) poor bank management.

D) that rising oil prices mean depositors require more cash.

1. The money supply will be ____ than the monetary base when reserves are ___ than

deposits.

A) smaller; less

B) smaller; greater

C) bigger; less

D) There is not enough information provided to answer the question.

2. Which of the following include liabilities of the Fed?

A) bank reserves

B) loans to commercial banks in the 10th district

C) government bonds

D) loans to commercial banks in the 8th district

3. Which of the following are assets of the Fed?

A) bank reserves

B) coins

C) government bonds

4.Without a banking system, the monetary base and money supply are equal to:

A) deposits.

B) reserves.

C) currency in circulation.

D) None of the answers are correct.

D) federal reserve notes

5.M1 is:

A) currency + traveler's checks + checking deposits

B) currency +coins

C) currency + checking deposits

D) currency

6.If a bank's assets are $200 and the value of its weighted assets is $125, which is the

more restrictive capital requirement: the U.S. minimum equity ratio or the Basel Accord

requirement?

A) They are the same.

B) The United States ratio is the most restrictive.

C) The Basel Accord is the most restrictive.

D) There is not enough information provided to answer the question.

7. Which of the following includes consequences of the purchase and assumption method

of dealing with an insolvent bank?

A) The FDIC sells most of the assets and liabilities of the insolvent bank to another

bank.

B) Depositors lose their deposits and bank branches close.

C) The FDIC sells the insolvent bank's liabilities and earns a profit.

D) The bank keeps its original name.

8. Which of the following is a consequence of the payoff method of dealing with an

insolvent bank?

A) The FDIC sells the bank's assets for as much as it can get to pay off depositors.

B) The insolvent bank remains open under a new management.

C) The FDIC fund is not affected.

D) Small depositors lose 50 percent of their deposits.

9. Deposit insurance creates a moral hazard because it:

A) eliminates depositors' incentives to monitor banks.

B) reduces the cost of a bank failure for depositors.

C) encourages depositors to leave their funds in a weak bank.

D) All of the answers are correct.

10. The Basel Accord set international standards for:

A) interest rate volatility.

B) reserve ratios.

C) bank capital requirements.

D) loan risk.

11. U.S. capital requirements mandate a ________ minimum capital–assets ratio.

A) 0 percent

B) 10 percent

C) 5 percent

D) 50 percent

12. Which of the following securities are banks not allowed to hold?

A) high-rated corporate bonds

B) stocks

C) municipal bonds

D) Treasury bonds

13. A bank run is an extreme form of:

A) credit risk.

B) interest rate risk.

C) low bank esteem.

D) liquidity risk.

14. One explanation for a bank run is:

A) adaptive expectations.

B) self-fulfilling expectations.

C) poor bank management.

D) that rising oil prices mean depositors require more cash.

Q2/PG.288 – Suppose a bank’s balance sheet looks as follows:
Assets Liabilities
Reserves $450 Deposits $5,000
and banks are required to hold reserves equal to 10% ofdeposits.
(a) How much excess reserve does the bank hold?
Answer: $4,500
(b) How much more can this bank lend?
Answer: $4,500
Q6/PG.288 – (a) When the reserve requirement changes, which of thefollowing will change for an individual bank (answer “change or “nochange”).
Transaction deposits - No Change
Total reserves - Change
Required reserves - Change
Excess reserves - Change
Lending capacity - Change
(b) When the reserve requirements changes, which of the followingwill change in the total banking system?
Transaction deposits - Change
Total reserves - No Change
Required reserves - No Change
Excess reserves - No Change
Lending capacity - Change
Q8/PG.288 – Suppose that a lottery winner deposits $20 million incash into her transactions account at the Bank of America. Assume areserve requirement of 25% and no excess reserves in the bankingsystem prior to this deposit.
(a) Use step 1 in the T-accounts below to show how her depositaffects the balance sheet
at B of A.
(b) Has the money supply been changed by her deposit? Answer:No
(c) Use step 2 below to show the changes at B of A after the bankfully uses its new lending
capacity.
(d) Has the money supply been changed in step 2? Answer: Yes
(e) In step 3 the new borrower(s) writes a check for the amount ofthe loan in step 2. That
check is deposited at another bank, and B of A pays the other bankwhen the check clears.
What does the B of A balance sheet look like now?
( f ) After the entire banking system uses the lending capacity ofthe initial ($20 million) deposit,
by how much will the following have changed?
Total reserves = 8,750,000
Total deposits = 20,000,000
Total loans = 15,000,000
Cash held by public = 20,000,000
The money supply = 35,000,000
Step 1: Winnings Deposited
Bank of America
_____________________________________________________________________________________
Assets Liabilities
(in millions) (in millions)
_____________________________________________________________________________________
Reserves = 20,000,000 Deposits = 20,000,000
Required = 5,000,000
Excess = 15,000,000
Subtotal = 20,000,000
Loans =
Total assets = 20,000,000 Total liabilities = 20,000,000

Step 2: Loans Made
Bank of America
Assets Liabilities
(in millions) (in millions)
Reserves = 20,000,000 Deposits = 20,000,000
Required = 8,750,000
Excess = 11,250,000
Subtotal = 40,000,000
Loans = 15,000,000
Total Assets = 35,000,000 Total Liabilities = 35,000,000


Step 3: Check Clears
Bank of America
Assets Liabilities
(in millions) (in millions)
Reserves = 20,000,000 Deposits = 20,000,000
Required = 5,000,000
Excess = 15,000,000
Subtotal = 20,000,000
Loans =
Total Assets = 20,000,000 Total Liabilities = 20,000,000

Weekly leaderboard

Home
Homework Help 3,900,000
Economics 400,000
Start filling in the gaps now
Log in