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economics of money banking and financial markets

Questions and Answers of Economics Of Money Banking And Financial Markets

1.8. If a yield curve looks like the one shown in Figure (a) below, what is the market predicting about the move- ment of future short-term interest rates? What might the yield curve indicate about
1.7. Assuming that the expectations theory is the correct theory of the term structure, calculate the interest rates in the term structure for maturities of one to five years, and plot the resulting
1.6. Assuming that the expectations theory is the correct theory of the term structure, calculate the interest rates in the term structure for maturities of one to five years, and plot the resulting
1.5. If yield curves, on average, were flat, what would this say about the liquidity (term) premiums in the term structure? Would you be more or less willing to accept the expectations theory?
1.4. "If bonds of different maturities are close substitutes, their interest rates are more likely to move together." Is this statement true, false, or uncertain? Explain your answer.
1.3. Risk premiums on corporate bonds are usually anticyclical; that is, they decrease during business cycle expansions and increase during recessions. Why is this so?
1.2. Why do U.S. Treasury bills have lower interest rates than large-denomination negotiable bank CDs?
1.1. Which should have the higher risk premium on its interest rates, a corporate bond with a Moody's Baa rat- ing or a corporate bond with a C rating? Why?
2. Increasing prices erode the purchasing power of the dollar. It is interesting to compute what goods would have cost at some point in the past after adjusting for inflation. Go to
1. One of the largest single influences on the level of interest rates is inflation. There are a number of sites that report inflation over time. Go to ftp://ftp.bls.gov/ pub/special
15. Will there be an effect on interest rates if brokerage commissions on stocks fall? Explain your answer.
5. What would happen to the demand for Rembrandt paintings if the stock market undergoes a boom? Why?
2. Explain why you would be more or less willing to buy a house under the following circumstances:a. You just inherited $100,000.b. Real estate commissions fall from 6% of the sales price to 5% of
1. Explain why you would be more or less willing to buy a share of Microsoft stock in the following situations:a. Your wealth falls.b. You expect the stock to appreciate in value.c. The bond market
3. In this chapter we discussed long-term bonds as if there were only one type, coupon bonds. In fact, there are also long-term discount bonds. A discount bond is sold at a low price and the whole
2. Figure 1 in the text shows the estimated real and nomi- nal rates for three-month Treasury bills. Go to www martincapital.com/main/charts.htm and click on "Nominal vs. Real Rates," then on
15. Interest rates were lower in the mid-1980s than they were in the late 1970s, yet many economists have com- mented that real interest rates were actually much higher in the mid-1980s than in the
13. Francine the Financial Advisor has just given you the following advice: "Long-term bonds are a great invest- ment because their interest rate is over 20%." Is Francine necessarily right?
11. You are offered two bonds, a one-year U.S. Treasury bond with a yield to maturity of 9% and a one-year U.S. Treasury bill with a yield on a discount basis of 8.9%. Which would you rather own?
9. Which $1,000 bond has the higher yield to maturity, a twenty-year bond selling for $800 with a current yield of 15% or a one-year bond selling for $800 with a cur- rent yield of 5% ?
8. To pay for college, you have just taken out a $1,000 government loan that makes you pay $126 per year for 25 years. However, you dont have to start making these payments until you graduate from
7. What is the yield to maturity on a simple loan for $1 million that requires a repayment of $2 million in five years' time?
6. What is the yield to maturity on a $1,000-face-value discount bond maturing in one year that sells for $800?
5. Write down the formula that is used to calculate the yield to maturity on a twenty-year 10% coupon bond with $1,000 face value that sells for $2,000.
3. If the interest rate is 10%, what is the present value of a security that pays you $1.100 next year, $1,210 the year after, and $1,331 the year after that?
2. You have just won $10 million in the state lottery, which promises to pay you $1 million (tax free) every year for the next ten years. Have you really won $10 million?
1. Would a dollar tomorrow be worth more to you today when the interest rate is 20% or when it is 10% ?
What is the real interest rate if the nominal interest rate is 8% and the expected infla- tion rate is 10% over the course of a year?
What is the yield to maturity on a bond that has a price of $2,000 and pays $100 of interest annually forever?
Find the price of a 10% coupon bond with a face value of $1000, a 12.25% yield to maturity, and eight years to maturity
You decide to purchase a new home and need a $100,000 mortgage. You take out a loan from the bank that has an interest rate of 7%. What is the yearly payment to the bank to pay off the loan in twenty
If Pete borrows $100 from his sister and next year she wants $110 back from him, what is the yield to maturity on this loan?
Assume that you just hit the $20 million jackpot in the New York State Lottery, which promises you a payment of $1 million for the next twenty years. You are clearly excited, but have you really won
What is the present value of $250 to be paid in two years if the interest rate is 15% ?
1. Go to www.federalreserve.gov/releases/h6/Current/.a. What has been the growth rate in M1 and M2 over the last twelve months?b. From what you know about the state of the econ- omy, does this seem
15. Why are revisions of monetary aggregates less of a problem for measuring long-run movements of the money supply than they are for measuring short-run movements?
14. For each of the following assets, indicate which of the monetary aggregates (M1 and M2) includes them:a. Currencyb. Money market mutual fundsc. Small-denomination time depositsd. Checkable
13. Which of the Federal Reserve's measures of the mone- tary aggregates-M1 or M2-is composed of the most liquid assets? Which is the largest measure?
12. Look up the M1 and M2 numbers in the Federal Reserve Bulletin for the most recent one-year period. Have their growth rates been similar? What implica- tions do their growth rates have for the
11. Suppose that a researcher discovers that a measure of the total amount of debt in the U.S. economy over the past twenty years was a better predictor of inflation and the business cycle than M1 or
10. In Brazil, a country that underwent a rapid inflation before 1994, many transactions were conducted in dol- lars rather than in reals, the domestic currency. Why?
9. Why have some economists described money during a hyperinflation as a "hot potato" that is quickly passed from one person to another?
7. Would you be willing to give up your checkbook and instead use an electronic means of payment if it were made available? Why or why not?
6. Was money a better store of value in the United States in the 1950s than it was in the 1970s? Why or why not? In which period would you have been more will- ing to hold money?
5. In ancient Greece, why was gold a more likely candi- date for use as money than wine was?
4. Why were people in the United States in the nineteenth century sometimes willing to be paid by check rather than with gold, even though they knew that there was a possibility that the check might
2. There are three goods produced in an economy by three individuals: Good Producer Apples Orchard owner Bananas Banana grower Chocolate Chocolatier If the orchard owner likes only bananas, the
7. How can the adverse selection problem explain why you are more likely to make a loan to a family member than to a stranger?
2. The most famous financial market in the world is the New York Stock Exchange. Go to www.nyse.com.a. What is the mission of the NYSE?b. Firms must pay a fee to list their shares for sale on the
1. One of the single best sources of information about financial institutions is the U.S. Flow of Funds report produced by the Federal Reserve. This document contains data on most financial
13. Why might you be willing to make a loan to your neighbor by putting funds in a savings account earning a 5% interest rate at the bank and having the bank lend her the funds at a 10% interest rate
10. If you are an employer, what kinds of moral hazard problems might you worry about with your employees?
9. Why do loan sharks worry less about moral hazard in connection with their borrowers than some other lenders do?
6. If you suspect that a company will go bankrupt next year, which would you rather hold, bonds issued by the company or equities issued by the company? Why?
4. The U.S. economy borrowed heavily from the British in the nineteenth century to build a railroad system. What was the principal debt instrument used? Why did this make both countries better off?
2. If I can buy a car today for $5,000 and it is worth $10,000 in extra income next year to me because it enables me to get a job as a traveling anvil seller, should I take out a loan from Larry the
1. Why is a share of Microsoft common stock an asset for its owner and a liability for Microsoft?
2. In Web Exercise 1 you collected and graphed the Dow Jones Industrial Average. This same site reports forecast values of the DJIA. Go to www.forecasts.org/data/index hum and click on "FFC Home" at
1. In this exercise we will practice collecting data from the Web and graphing it using Excel. Use the example on page 18 as a guide. Go to www.forecasts.org/data/ index.htm, click on "Stock Index
15. When the dollar is worth more in relation to currencies of other countries, are you more likely to buy American- made or foreign-made jeans? Are US. companies that manufacture jeans happier when
14. Looking at Figure 8, in which years would you have chosen to visit the Grand Canyon in Arizona rather than the Tower of London?
13. How does an increase in the value of the pound sterling affect American businesses?
12. How does a fall in the value of the pound sterling affect British consumers?
11. What effect might a rise in stock prices have on con- sumers' decisions to spend?
10. What effect might a fall in stock prices have on busi- ness investment?
9. What is the typical relationship between interest rates on three-month Treasury bills, long-term Treasury bonds, and Baa corporate bonds?
8. Why are financial markets important to the health of the economy?
7. What is the basic activity of banks?
6. Is everybody worse off when interest rates rise?
5. Can you think of any financial innovation in the past ten years that has affected you personally? Has it made you better off or worse off? Why?
4. When interest rates fall, how might you change your economic behavior?
3. When was the most recent recession?
2. If history repeats itself and we see a decline in the rate of money growth, what might you expect to happen toa. real output?b. the inflation rate?c. interest rates?
1. Has the inflation rate in the United States increased or decreased in the past few years? What about interest Tales?
3. You now want to analyze the interest rates by graphing them. Again highlight the two. columns of data you just created in Excel. Click on the charts icon on the toolbar (or INSERT/CHART). Select
2. Now that you have located an accurate source of historical interest rate data, the next step is getting it onto a spreadsheet. You recall that Excel will let you convert text data into columns.
1. You decide that your best indicator of long-term interest rates is the ten-year U.S. Trea- sury note. Your first task is to gather historical data. Go to www.federalreserve.gov/ releases/H15. The
WHY STUDY MONEY AND MONETARY POLICY?
Suppose you were the manager of a bank with the following balance sheet.You are required to hold 10 percent of checkable deposits as reserves. If you were faced with unexpected withdrawals of $30
Plot the risk-return combinations in the following table in a graph with the expected return measured on the vertical axis and the risk on the horizontal axis. If an investor claimed to be
Which of the investments in the following table would be most attractive to a risk-averse investor? How would your answer differ if the investor was described as risk-neutral? Investment Expected
Assume that the economy can experience high growth, normal growth, or recession.Under these conditions you expect the following stock market returns for the coming year:a. Compute the expected value
n Their importance as traders in financial markets
n Their importance in financing real economic activity
n The comparative size of those institutions judged by stocks of assets and by flows of funds
n The functions of the major institutions comprising the UK financial system
13 How do hedge funds differ from private equity funds? Why are they often linked in popular commentary?
12 Why do the shares in investment trusts often trade at a discount to the value of the underlying assets in the fund?
11 Distinguish between ‘closed-end’ and ‘openended’mutual funds. Why are management charges in the former generally lower than in the latter?
10 Distinguish between (i) PAYG and funded pension schemes and (ii) defined benefit and defined contribution schemes. In both cases, identify the main advantages and disadvantages of each member of
9 Is it reasonable to argue that provision for old age should be left as a matter for individual choice? If your answer is ‘no’, what do you consider to be the strongest argument against doing so
8 Do insurers face a dilemma between trying to differentiate as finely as possible between subgroups within a given class of business and seeking to reduce risk by making use of the LLN?
7 How much truth is there in the accusation sometimes levelled against insurance companies that they are in business to provide cover for people who do not need it?
6 Explain how limits to the applicability of the insurance principle can lead to financial exclusion.
5 Why should it matter to an insurance company whether or not the exposures it is called upon to cover are:(a) large in number?(b) part of a known phenomenon?(c) statistically independent of one
4 ‘Provided an insurance company bases the premiums it charges on the claims resulting from a large sample of homogeneous and statistically independent past exposures, its premium income will
3 How does the presence of ‘asymmetric information’help to explain the type of contracts offered by banks?
2 Explain why ‘liquidity risk’ is a particular problem for banks (when compared with nondeposit-taking institutions). How can banks protect themselves against liquidity risk?
1 Distinguish between ‘asset risk’, ‘payment risk’and ‘liquidity risk’ as faced by banks.
Suppose the pension scheme of a given firm is fully funded at the present time. How, if at all, will the following changes affect the financial state of the fund?(a) An increase in the rate of

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