1. (5 points) Explain why large nancial institutions, such as AIG, are \too big to fail" and why they may have a moral hazard problem.

2. (6 points) If you see a flat yield curve, explain how you expect future short-term interest rates to change.

3. (6 points) Please explain how Bank of Canada uses Sales and Re- purchase Agreements (SRAs, or reverse repos) to reduce undesired downward pressure on the overnight rate.

4. Please describe the procedure (\Originate-Pooling-Tranche") of creating mortgage-backed securities. You may use the example we discussed in class (i.e., bank pools two mortgages to create MBS) to assist your explanation.

5. (8 points) Suppose that Bank of Canada purchases from non-nancialrms $100 million worth of government bonds. The rms then deposit the money in their bank accounts. What happens to reserves and the monetary base? Show the T-accounts for Bank of Canada, the rms and the commercial banks.