Deck 20: Deposit Insurance and Other Liability Guarantees

Question 1

Contagious runs on bank deposits are directed at FIs, whether they are failing or healthy.

Answer 1

True

Question 2

A major reason for the deterioration of the deposit insurance funds in the 1980s was the downturn in the technology, manufacturing, and real estate industries.

Answer 2

False

Question 3

Deposit insurance is often blamed for the deterioration in depositor discipline that allowed FIs to accept more risk in the asset selection process.

Answer 3

True

Question 4

A major cause of the FSLIC insolvency in the 1980s was the dramatic rise in interest rates in 1979-82 that created extensive duration mismatches of assets and liabilities in the savings and loan industry.

Question 5

Explicit deposit insurance premiums applied by regulators can involve restricting and more closely monitoring the risky activities of banks.

Question 6

Pricing insurance premiums in an actuarially fair manner involves assessing the risk-taking profile of the financial institution.

Question 7

The average cost to the FDIC of each bank failure during the decade of the 1980s was larger than the total cost of all bank failures during the period 1933-79.

Question 8

The adverse effects of a contagious run include the restrictions on the ability of individuals to transfer wealth through time and a negative impact on the level or rate of savings.

Question 9

The number of bank failures in the period of 1933-79 was less than the number of failures from 1980-1989.

Question 10

Since its inception, the FDIC deposit insurance fund has never fallen to a negative balance.

Question 11

The Federal safety net to protect the integrity of the payments system consists of deposit insurance and social welfare.

Question 12

The Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA) restructured the savings association deposit insurance fund and transferred its management to the FDIC.

Question 13

During the financial crisis of 2008-2009, deposit balances at DIs increased.

Question 14

Moral hazard encourages the FI to take less, rather than more, risk.

Question 15

The risk of moral hazard decreases when capital levels are low.

Question 16

As a result of the Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA), the deposit insurance fund for the savings and loan industry has been combined with the deposit insurance fund for the commercial banking industry.

Question 17

A run on a bank is not necessarily a bad occurrence.

Question 18

After nearly failing, the FDIC's Bank Insurance Fund (BIF) achieved record levels of reserves during the 1990s.

Question 19

If regulators provide more protection against bank runs, the incidence of moral hazard is likely to increase.

Question 20

Moral hazard provides an incentive for bank owners to accept greater asset risks because they have less to lose, and potentially more to gain.

Question 21

The regulatory practice of excessive capital forbearance is a method of reducing the short-run and long-run costs to deposit insurance funds.

Question 22

The improved financial health of the FDIC during the 1990s resulted in a considerable reduction in deposit insurance premiums.

Question 23

Because deposit insurance premiums were not priced in an actuarially fair manner during the period from 1933-1980s, instability was created in the credit and monetary system.

Question 24

Currently in the U.S., deposit insurance premiums increase with the amount of risk of the institution.

Question 25

The prompt corrective action program of the FDIC Improvement Act allows a bank or thrift to be placed into receivership when the book value of capital to assets falls below 2 percent.

Question 26

The ability of the FDIC to place a bank into receivership even though the book value of capital remains positive is an attempt to institute increased stockholder discipline.

Question 27

The use of the option pricing model to determine the actuarially fair premium is difficult to apply in practice because the asset values and risks are difficult to determine.

Question 28

The cost of insolvency of an FI to the FDIC is offset in part by the deposit insurance premiums paid by the bank.

Question 29

Requiring higher capital ratios often is proposed as method to reduce the incentive to take excessive risk because the moral-hazard risk-taking incentives are thought to decrease as the amount of net worth increases.

Question 30

Risk-based capital supports risk-based deposit insurance premiums by increasing the cost risk taking for DI stockholders.

Question 31

The use of the option pricing model to determine the actuarially fair premium for deposit insurance indicates that the cost of the insurance should rely on both the asset size and level of leverage of the DI.

Question 32

The initial risk-based deposit insurance program implemented on January 1, 1993 was based on capital adequacy and supervisory judgments involving asset quality, loan underwriting standards and other operating risks.

Question 33

The Designated Reserve Ratio is a rule that stipulates that highly-rated DIs would not pay deposit insurance premiums if this ratio was above 0.25 percent.

Question 34

The use of subordinated debt as a replacement for common stock has been proposed as a method of increasing stockholder discipline.

Question 35

Pricing deposit insurance premiums to reflect increases in risk-taking by financial institutions is one method to reduce incentives to take risks.

Question 36

The policy of capital forbearance practiced by the FSLIC in the late 1980s allowed many commercial banks to remain open even in the face of continuing losses and insolvency.

Question 37

The provision of deposit insurance is similar to the FDIC selling a call option on the assets of a bank allowing the FDIC to exercise the option and seize the bank's assets if the bank becomes insolvent.

Question 38

The Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA) required the FDIC to establish risk-based premiums for deposit insurance coverage at banks.

Question 39

More than 90 percent of all insured DIs did not pay deposit insurance premiums in the late 1990s and early 2000s.

Question 40

One of the overall objectives in using subordinated debt in addition to common stock for a DI's capital base is to improve market discipline of a DI's risk structure.

Question 41

Insured depositors can be covered for much more than $250,000 at any given FI under current FDIC regulations.

Question 42

The FDIC deposit insurance program is also available to credit unions.

Question 43

The insured depositor transfer method of least-cost bank failure resolution requires the FDIC to employ the method that imposes the highest amount of failure costs on uninsured depositors.

Question 44

The current "too big to fail" policy doctrine relies on the separation of small depositors who would receive deposit insurance and large depositors who would not receive the benefits of deposit insurance.

Question 45

The deposit insurance programs of the National Credit Union Administration (NCUA) is modeled after the programs offered by the FDIC.

Question 46

The 1993 Depositor Protection legislation gives equal claim to the value of liquidated assets less the amount of insured deposits to foreign uninsured depositors, domestic uninsured depositors, and the FDIC.

Question 47

FDICIA imposed additional regulatory discipline as a substitute for increased stockholder and depositor discipline.

Question 48

The Pension Benefit Guaranty Corporation (PBGC) insures pension benefits against the under-funding of pension plans by corporations.

Question 49

The FIRREA prohibited all insured financial institutions from accepting brokered deposits or paying interest rates that are significantly higher than existing market rates.

Question 50

Interest rates charged to healthy banks that use the Federal Reserve discount window are typically set one percent below the fed funds target interest rate.

Question 51

By decreasing the use of the discount window as a source of funding for a DI, the Federal Reserve hopes to reduce volatility in the fed funds market.

Question 52

The employment of deposit brokers allows individual depositors to receive deposit insurance coverage on total asset balances well in excess of $250,000 at any given bank.

Question 53

Brokers who break up large deposits into smaller units at different banks to ensure full coverage by deposit insurance are referred to as deposit brokers.

Question 54

State guaranty funds for insurance companies are sponsored by state insurance regulators rather than by a federal agency such as the FDIC.

Question 55

The discount window at the Federal Reserve is a suitable substitute for deposit insurance and a possible method of preventing bank runs.

Question 56

Critics of the current FDIC insurance programs often argue that only uninsured depositors have any incentive to discipline riskier banks.

Question 57

The required contribution from surviving insurers to protect policyholders of failed insurance companies usually is on a pro rata amount based on the relative asset size of the surviving company.

Question 58

The National Credit Union Administration (NCUA) is an independent federal agency that insures credit union deposits.

Question 59

The introduction of prompt corrective action capital zones by FDICIA was an attempt to place greater decision-making power at the discretion of regulators rather than on objective, measurable rules.

Question 60

During the 1980s, a high proportion of brokered deposits at a DI became an early warning signal of its risk for failure.

Question 61

What is the benefit of a regulatory guarantee or insurance program for liability holders of FIs?

A)It decreases the likelihood contagious runs.
B)It increases concerns about the asset quality of FI.
C)It increases concerns about solvency of an FI.
D)It provides incentives to liability holders to engage in bank runs.
E)It provides preference to those who are first in line to withdraw funds over those last in line.

Question 62

Deposit insurance premiums or costs imposed on a DI through activity constraints rather than direct monetary charges describes implicit premiums.

Question 63

What was the objective of the FDIC Improvement Act (FDICIA) of 1991?

A)Returning the banking industry to record profit levels.
B)Restructure the savings association deposit insurance fund and transfer its management to FDIC.
C)To deny deposit insurance coverage to funds obtained through deposit brokers.
D)To restructure the bank deposit insurance fund and prevent its potential insolvency.
E)To enforce the capital standards on insured depository institutions.

Question 64

To address the decreasing balance of the FDIC deposit insurance fund during the financial crisis of 2007-2008

A)deposit insurance programs were suspended for a period of three months.
B)the FDIC increased individual depositor insurance coverage from $100,000 to $250,000.
C)the FDIC announced that it would no longer honor deposit insurance coverage of some failing DIs.
D)two special assessments were levied on institutions participating in the FDIC insurance programs.
E)the U.S.Treasury had to take over management of the FDIC.

Question 65

How can the regulators reduce the effects of moral hazard in the absence of depositor discipline?

A)By allowing DIs to undertake high-risk high-return asset investments.
B)By basing deposit insurance premiums on a DI's deposit size.
C)By charging explicit deposit insurance premiums and implicit premiums on DIs.
D)By exhibiting excessive capital forbearance.
E)By implementing prompt corrective action capital zones based on rules rather than discretion.

Question 66

The deficit realized by the PBGC in 1992 was a result of risk-taking by fund administrators.

Question 67

Which of the following is NOT a social welfare effect of bank runs?

A)Discipline of incompetent managers.
B)Negatively affecting the payments function of DIs.
C)Reduced availability of credit.
D)Potential decrease in the money supply.
E)Inability to perform intergenerational wealth transfers.

Question 68

Which of the following contributed the least to the collapse of the FSLIC/FDIC deposit insurance funds?

A)An increase in interest rate volatility.
B)Enhanced investment powers granted to thrifts.
C)Fraudulent behavior induced by the greed of the decade of the 80s.
D)Fraudulent behavior induced by ineffective regulatory incentives.
E)The extension of deposit insurance to uninsured depositors.

Question 69

All of the following are associated with contagious runs at DIs EXCEPT

A)liability holders not distinguishing between good and bad FIs.
B)liability holders seeking to quickly turn their liabilities into cash or safe securities.
C)a contractionary effect on the supply of credit.
D)negative social welfare effects.
E)an expansionary effect on the regional money supply.

Question 70

Which of the following refers to the regulators' policy of allowing an FI to continue operating even when its capital funds are fully depleted?

A)Capital forbearance.
B)Prompt corrective action.
C)Risk-based deposit insurance.
D)Too-big-to-fail.
E)Regulatory oversight.

Question 71

Moral hazard at FIs may

A)result when actions and consequences are separated.
B)occur when interest rates are very high and volatile.
C)occur when commodity prices are very high and volatile.
D)be a consequence of strict regulatory supervision.
E)be a consequence of an erosion of family values.

Question 72

From January 2008 to December 2009, there were a total of ____ FDIC insured bank failures, which cost the FDIC approximately ____ billion to resolve.

A)26; $17
B)140; $39
C)166; $56
D)211; $69
E)234; $72

Question 73

Bank risk taking can be controlled by increasing

A)stockholder discipline by charging stockholders a surcharge.
B)stockholder discipline by setting risk-adjusted deposit insurance premiums.
C)depositor discipline by increasing the ceiling for deposit insurance coverage.
D)regulatory discipline by increasing the budgets of the regulatory agencies.
E)depositor discipline by expanding the doctrine of "too big to fail."

Question 74

Banks that are viewed by regulators as being too big to be closed and liquidated without imposing a systemic risk to the banking and financial system are referred to is large and in charge banks.

Question 75

Which of the following methods was NOT a method used to replenish the FDIC's deposit insurance reserve fund during the most recent financial crisis?

A)A special assessment was imposed on participating FIs in early 2009.
B)Individual depositor insurance coverage was increased to $250,000.
C)Deposit insurance premiums were increased.
D)Participating institutions were required to pre-pay insurance premiums.
E)A special assessment was imposed on participating FIs during the fall of 2009.

Question 76

Insurance pricing based on the perceived risk of the insured is referring to actuarially fairly priced insurance.

Question 77

As if January 1, 1994, the FDIC now has to base premiums on which of the following?

A)different categories and concentrations of assets.
B)different categories and concentrations of liabilities-insured, uninsured, contingent, and noncontingent.
C)other factors that affect the probability of loss.
D)the deposit insurer's revenue needs.
E)all of the above.

Question 78

The contagion effect

A)stems from the positive correlation in FI returns.
B)results when interest rate risk increases credit risk and liquidity risk exposures.
C)occurs when liquidity risk problems at bad banks damages well-run banks.
D)occurs when a computer virus infects the computerized electronics payments systems Fedwire and CHIPS.
E)is completely eliminated by government provided deposit insurance against bank runs.

Question 79

Under the OPM, the FDIC charges the insurer a premium to insure the insurer's deposits and if the insurer does well and the market value of the insurer's assets is greater than the depositis, the net worth is positive and can continue in this manner.

Question 80

Which of the following refers to mandatory actions that have to be taken by regulators as a DI's capital ratio falls.

A)Capital forbearance.
B)Prompt corrective action.
C)Risk-based deposit insurance.
D)Too-big-to-fail.
E)Regulatory oversight.