ASSETS LIABILTIES

CASH 10 DEPOSITS 30

LOANS 40 EQUITY 20

A bank with the balance sheet above is met with a sudden drop in deposits of $20 due to financial problems. The bank can sell a portion of their loan portfolio for $0.50 on the dollar. The bank earns 8% on their loans, and pays 4% on their deposits. The bank can borrow money at 6%.

2. What does the banks balance sheet look like if it addresses the drop in deposits using stored liquidity?

3. What does the banks balance sheet look like if it addresses the drop in deposits using purchased liquidity?

4. Which method impacts income less (which method produces a smaller drop in income)?