Question 1

Using T-accounts, please record the following transactions.

1. M&B Bank PLC (the bank) is incorporated with equity capital of 10 million. [1 point]
2. The bank issues deposits to customers for 30 million. [1 point]
3. The bank issues bonds for 20 million. [1 point]
4. The bank must maintain 10% of assets in required reserves at all times. Please discuss the role of required reserves as a monetary policy tool by central banks. [5 points]
5. After setting aside the required reserves, the bank decides to invest the remaining amount of cash. The bank invests 10 million in a coupon bond issues by UK Treasury. What is left is loaned out. [1 point]
6. The coupon bond of point (e) pays a coupon of 5% per year, paid semi-annually. It has 3 years to maturity. If the current Yield-to-Maturity is 2.5% semi-annually, what is the price of the bond? [4 points]
7. A year later, the Bank of England is worried by rising inflation and announces its intention to raise interest rates. This announcement immediately sends the Yield-to-Maturity of bond in point (f) surging 200 basis points. Recalculate the price of the bond. [4 points]
8. What is the Holding Period Return recorded on the bond position over the past year? [1 point]
9. What is the Profit-and-Loss recorded on the bond position in Pound Sterling ()? [1 point]
10. Record the result of point (g) in the T-accounts. [1 point]
11. If your result is a loss, please discuss if the bank has enough equity capital to support that loss. [5 points]
12. Please discuss the Basel Capital accords. Focus in particular on capital requirements and their calculation. [5 points]

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