Problem set 3 Readings: Mishkin, Chapters 8, 9, 10 and 11 Deadline: Monday, July 20, beginning of the class. Online Submission through NYU Classes. Answer all the questions below. You may submit your solutions typed or clearly written. Don’t copy the questions, just make it clear which one you are answering.
Chapter 8 Exercises 1. How can economies of scale help explain the existence of financial intermediaries? 2. Describe two ways in which financial intermediaries help lower transaction costs in an economy. 3. Which firms are most likely to use bank financing rather than issue bonds or stocks to finance their activities? Why? 4. Gustavo is a young doctor who lives in a country with a relatively inefficient legal and financial system. When Gustavo applied for a mortgage, he found that banks usually required collateral for up to 300% of the amount of the loan. Explain why banks might require that much collateral in such a financial system. Comment on the consequences of such a system for economic growth
Chapter 9 Exercises 1. The bank you own has the following balance sheet: If the bank suffers a deposit outflow of $50 million with a required reserve ratio on deposits of 10%, what actions should you take?
2. If a deposit outflow of $50 million occurs, which balance sheet would a bank rather have initially, the balance sheet in the question above or the following balance sheet? Why?
3. For this problem, use the T-accounts of the First National Bank and the Second national Bank we discussed in Lecture 9. a. Using the T-accounts of the First National Bank and the Second National Bank given in this chapter, describe what happens when Jane Brown writes a check for $90 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. b. What happens to reserves at the First National Bank if one person withdraws $1,100 of cash and another person deposits $200 of cash? Use T-accounts to explain your answer.
4. A bank reported a ROE of 16% and a ROA of 1.32%. What is the equity multiplier? How well capitalized is this bank? What is the share of equity capital in the liabilities?
5. A bank has a loan as an asset. The borrower received $800 and has to repay $300 every year for three years. a. What is the Yield to Maturity for this loan? Use Excel or Wolfram Alpha to make the necessary calculations. b. Use the YTM to calculate the Present value of each payment (year 1, year 2, year 3) c. Calculate the duration of the loan. Use the example in the presentation if you are confused.
a. If the bank suffers a deposit outflow of $75 million with a required reserve ratio on deposits of 10%, what actions should you take? Use T-accounts in your answer. b. What is the Equity multiplier of this bank (after the withdrawal)?
Chapter 10 Exercises 1. Why are deposit insurance and other types of government safety nets important to the health of the economy? 2. What are the costs and benefits of a too-big-to-fail policy? 3. What special problem do off-balance-sheet activities present to bank regulators, and what have they done about it? 4. Oldhat Financial starts its first day of operations with $11 million in capital. A total of $120 million in checkable deposits are received. The bank makes a $30 million commercial loan and another $40 million in mortgages with the following terms: 200 standard, 30-year, fixedrate mortgages with a nominal annualrate of 5.25%, each for $200,000. Assume that required reserves are 8%. a. What does the bank balance sheet look like? b. How well capitalized is the bank? c. Calculate the risk-weighted assets and risk-weighted capital ratio after Oldhat’s first day
Chapter 11 Exercises 1. Why was the United States one of the last major industrialized countries to have a central bank? 2. Why does the United States operate under a dual banking system? 3. What were the motivations for the original Glass-Steagall Act of 1933? 4. Why is loophole mining so prevalent in the banking industry in the United States? 5. If reserve requirements were eliminated in the future, as some economists advocate, what effects would this have on the size of money market mutual funds?