Consider the following balance sheet of WAZ:

Assets	(K000)	Duration	Liabilities	(K000)	Duration
Variable-rate mortgages	1,600	4.1	Money market deposits	2,000	1.3
Fixed-rate mortgages	1,400	8.1	Savings deposits	3,500	2.3
Commercial loans	5,000	3.2	Variable-rate CDs (>1 year)	1,000	1.2
Physical capital	2,000		Equity	3,500
Total	10,000		Total	10,000

a) Using basic gap analysis, calculate the change in net interest income at the year- end if interest rates are forecast to increase by 0.5 per cent, from 3 to 3.5 percent. 3

Make the following assumptions on the runoff of cash flows:

fixed-rate mortgages repaid during the year: 10 percent;

Proportion of savings deposits and variable-rate CD that are rate-

sensitive: 20 per cent.

(b) Calculate the duration gap for WAZ.

(c) Explain how WAZ could decrease its duration gap.

(d) Explain how interest rate risk arises and how it can be measured.