Deck 14: Regulating the Financial System

Question 1

Recession can cause widespread bank crises for all of the following reasons except:

A)There is less business investment as banks make fewer loans
B)Borrowers' default rates increase
C)Bank capital increases
D)The negative effect on banks' balance sheets

Answer 1

C

Question 2

It is difficult for depositors to know the true health of banks because:

A)Regulations prohibit banks making their financial statements publicly available
B)The financial statements of banks are too difficult for most people to understand
C)Most of the information on bank loans is private and based on sophisticated models
D)Banking is competitive and financial records of banks are not divulged to prevent competitor banks from having an advantage

Answer 2

C

Question 3

The reasons for the government to get involved in the financial system include each of the following, except:

A)To protect the bank's monopoly position
B)To protect investors
C)To ensure the stability of the financial system
D)To protect bank customers from monopolistic exploitation

Answer 3

A

Question 4

When healthy banks fail due to widespread bank panics, those who are likely to be hurt are:

A)Government regulators
B)Households and small businesses
C)The FDIC
D)The Federal Reserve

Question 5

Contagion is:

A)The failure of one bank spreading to other banks through depositors withdrawing of funds
B)The phenomenon that if one bank loan defaults it will cause other bank loans to default
C)The rapid contraction of investment spending that occurs when interest rates are increased by the Federal Reserve
D)The rapid inflation that results from the printing of money

Question 6

The government's role of lender of last resort is directed to:

A)Large manufacturing firms that employ thousands of people
B)Depositors; this is role the government plays when they insure depositors' balances in banks that fail
C)Developing countries that are trying to build their financial systems
D)Banks that experience sudden deposit outflows

Question 7

Empirical evidence points to the fact that financial crises:

A)Are newsworthy but have no impact on economic growth
B)Have a negative impact on economic growth only for the year of the crisis
C)Have a negative impact on economic growth for years
D)Can have a positive impact on economic growth as weak borrowers are weeded out

Question 8

The reason that a run on a single bank can turn into a bank panic that threatens the entire financial system is:

A)Information asymmetries
B)Moral hazard
C)The lack of regulation
D)The increased reliance on web-based funds transfers

Question 9

Bank panics have often begun as a result of:

A)Rumors only
B)Real economic events only
C)Both rumors and real economic events
D)Neither rumors nor economic events

Question 10

Bank failures tend to occur most often during periods of:

A)Stock market run ups when, like many companies, banks tend to be overvalued
B)High inflation when the fixed rate loans of many banks cause their real returns to decrease
C)Recessions when many borrowers have a difficult time repaying loans and lending activity slows
D)Wars and other civil unrest

Question 11

The federal government is concerned about the health of the banking system for many reasons, the most important of which may be:

A)Banks are where government bonds are traded
B)A significant number of people are employed in the banking industry
C)Many people earn the majority of their income from interest on bank deposits
D)Banks are of great importance in enabling the economy to operate efficiently

Question 12

The government regulates bank mergers, sometimes denying the proposed merger.Often the reason given for the denial is to protect small investors.What are small investors being protected from?

A)With a larger bank the bank is likely to take greater risk and may fail
B)In order to pay for the merger, the bank may seek higher returns putting the depositors' funds at greater risk
C)Mergers can increase the monopoly power of banks and the bank may seek to exploit this power by raising prices and earning unwarranted profits
D)Bank runs hurt larger banks more than smaller banks

Question 13

The government provides deposit insurance; this insurance protects:

A)Large corporate deposit accounts, but only the amounts that exceed the $250,000 deductible
B)Depositors for up to $250,000 should a bank fail
C)The deposits of banks in their Federal Reserve accounts
D)The deposits that people have, but only for federally chartered banks

Question 14

A bank run involves:

A)Illegal activities on the part of the bank's officers
B)A bank being forced into bankruptcy
C)A large number of depositors withdrawing their funds during a short time span
D)A bank's return on assets being below the acceptable level

Question 15

Which of the following tradeoffs impact the likelihood of a bank's failure?

A)The more competitive the banking environment, the more liquid the bank will be
B)The greater the regulation from government the more likely the bank will fail
C)The more profitable the bank, the less liquid the bank will be and the more likely it will fail
D)The larger the bank in asset size the more likely it will fail

Question 16

Rumors of a bank failing, even if not true, can become a self-fulfilling prophecy because:

A)Customers will not want to obtain loans from this bank
B)The rumors will cause people to not want to deposit in this bank
C)Regulators will scrutinize the bank heavily looking for something wrong
D)Depositors will rush to the bank to withdraw their deposits and the bank under normal situations would not have sufficient liquid assets on hand

Question 17

What matters most during a bank run is:

A)The number of loans outstanding
B)The solvency of the bank
C)The liquidity of the bank
D)The size of the bank's assets

Question 18

The financial system is inherently more unstable than most other industries due to the fact that:

A)While in most other industries customers disappear at a faster rate, in banking they disappear slowly so the damage is done before the real problem is identified
B)Banks deal in paper profits, not in real profits
C)A single firm failing in banking can bring down the entire system; this isn't true in most other industries
D)There is less competition than in other industries

Question 19

Deflation can cause widespread bank crises for all of the following reasons except:

A)A decline in the value of borrowers' net worth but not their liabilities
B)Borrowers' default rates increase
C)Bank balance sheets deteriorate as the level of economic activity decreases
D)Information asymmetry problems decrease during deflationary periods

Question 20

An economic rationale for government protection of small investors is that:

A)Large investors can better afford losses
B)Many small investors cannot adequately judge the soundness of their bank
C)There is inadequate competition to ensure a bank is operating efficiently
D)Banks are often run by unethical managers who will often exploit small investors

Question 21

If your stockbroker gives you bad advice and you lose your investment:

A)The government will reimburse you similar to reimbursing depositors if a bank fails
B)The government will not reimburse you for the loss; you are not protected from bad advice by your stockbroker
C)These losses would be covered under FDIC
D)Your investment would only be covered if the stockbroker was employed by a bank

Question 22

The first test of the Federal Reserve as lender of last resort occurred with the:

A)Attack on Pearl Harbor by the Japanese
B)Widespread failures of Savings and Loans in the 1980's
C)Introduction of flexible exchange rates in the U.S.in 1971
D)Stock market crash in 1929

Question 23

During the financial crisis of 2007-2009 in the United States it was revealed that the function of a lender of last resort had not kept pace with the evolving financial system because:

A)financial intermediaries had grown sufficiently large so as not to need a lender of last resort
B)shadow banks lacked access to the financial capital available through the lender of last resort
C)banks were sufficiently linked to one another that the need for a lender of last resort had diminished
D)banks had become sufficiently diversified so as to be able to provide for their own liquidity

Question 24

One reason customers do not care about the quality of their bank's assets is:

A)Most people cannot distinguish an asset from a liability
B)The quality of a bank's assets changes almost daily
C)They assume the bank only has high quality assets
D)With deposit insurance, there isn't any real reason to care; their deposits are protected even if the bank fails

Question 25

On November 20, 1985, the Bank of New York needed to use the lender of last resort function due to:

A)A run on the bank started by a rumor that the president of the bank embezzled tens of millions of dollars from the bank
B)A computer error caused the bank's records to wipe out the balances of all of its customers
C)A rumor that the bank was about to be taken over by FDIC due to insolvency
D)A computer error that made it impossible for the bank to keep track of its Treasury bond trades

Question 26

The existence of a lender of last resort creates moral hazard for bank managers because:

A)They have an incentive to take too much risk in their operations
B)Officials are likely to undervalue the bank's portfolio of assets
C)They are less likely to apply for a direct loan from the central bank
D)Banks seek loans from the central bank only after exploring other options

Question 27

The need for a lender of last resort was identified as far back as:

A)The start of the Great Depression in 1929
B)1913, when the Federal Reserve was created
C)1873, by British economist Walter Bagehot
D)1776, by the first U.S.Secretary of the Treasury, Alexander Hamilton

Question 28

During a bank crisis:

A)Officials at the Federal Reserve find it easy to sort out solvent from insolvent banks
B)It is important for regulators to be able to distinguish insolvent from illiquid banks
C)It is easy to determine the market prices of bank's assets
D)A bank will go to the central bank for a loan before going to other banks

Question 29

When the Federal Reserve was unable to stem the bank panics of the 1930s, Congress responded by:

A)Taking over the lender of last resort function and assigning this function to the U.S.Treasury
B)Ordering the printing of tens of billions of dollars of additional currency
C)Creating the FDIC and offering deposit insurance
D)Declaring a bank holiday and closing banks for 30 days

Question 30

One lesson learned from the bank panics of the early 1930's is:

A)The lender of last resort function almost guarantees that bank panics are a thing of the past
B)The mere existence of a lender of last resort will not keep the financial system from collapsing
C)Only the U.S.Treasury can be a true lender of last resort
D)The financial system will collapse without a lender of last resort

Question 31

The government's providing of deposit insurance and functioning as the lender of last resort has significantly:

A)Decreased the incentive for bank managers to take on risk
B)Increased the amount of regulation of banks required, but has had no effect on bank's incentive to take on risk
C)Increased the incentive for banks to take on risk, but has had no effect on the amount of regulation of banks required
D)Increased the amount of regulation of banks required and increased the incentive for banks to take on risk

Question 32

The inter-bank loans that appear on banks' balance sheets represent what proportion of bank capital?

A)Nearly ten percent
B)Almost three-fourths
C)About one-third
D)Less than two percent

Question 33

All of the following are true about deposit insurance except:

A)Depositors do not need to involve themselves with the risk taking by bank managers
B)The deposits of a bank customer are insured up to some stated maximum value
C)There is a creation of potential moral hazard by bank managers
D)It has not been successful in eliminating bank runs and financial crises

Question 34

The best way for a government to stop the failure of one bank from turning into a bank panic is to:

A)Make sure solvent institutions can meet the withdrawal demands of depositors
B)Declare a bank holiday until solvent banks can acquire adequate liquidity
C)Limit the withdrawals of depositors
D)Provide zero-interest rate loans to all banks regardless of net worth

Question 35

One of the unique problems that banks face is:

A)They hold liquid assets to meet illiquid liabilities
B)They hold illiquid assets to meet liquid liabilities
C)They hold liquid assets to meet liquid liabilities
D)Both their assets and their liabilities are illiquid

Question 36

The creation of the Federal Reserve in 1913:

A)Provided the opportunity for lender of last resort but not the guarantee that it would be used
B)Guaranteed the Federal Reserve would always act as lender of last resort
C)Eliminated bank panics in the U.S
D)Was in response to the Great Depression in the U.S

Question 37

The fact that banks often make loans to other banks means:

A)One bank failing will not have a large impact on the financial industry
B)The banking industry is really self-regulating
C)One bank's failure can be contagious and spread to other banks
D)The liquidity problem banks face is reduced

Question 38

If the lender of last resort function of the government is to be effective in working to minimize a crisis, it must be:

A)Reserved only for those banks that are most deserving
B)Used on a limited basis
C)Credible, with banks knowing they can get loans quickly
D)Only available during economic downturns

Question 39

A moral hazard situation arises in the lender of last resort function because:

A)A central bank finds it difficult to distinguish illiquid from insolvent banks
B)A central bank usually will only make a loan to a bank after it becomes insolvent
C)A central bank usually undervalues the assets of a bank in a crisis
D)The central bank is the first place a bank facing a crisis will turn

Question 40

The payoff method used by the FDIC to address the insolvency of a bank is when the FDIC:

A)Pays the owners of the bank for the losses they would otherwise face
B)Pays off all depositors the balances in their accounts so no depositor suffers a loss, though the owners of the bank may suffer losses
C)Pays off the depositors up to the current $250,000 limit, so it is possible that some depositors will suffer losses
D)Takes all of the assets of the bank, sells them pays off the liabilities of the bank in full and then replenishes their fund with any remaining balance

Question 41

The moral hazard problem caused by government safety nets:

A)Is greater for larger banks
B)Is greater for smaller banks
C)Is pretty constant across banks of all sizes
D)Only exists for banks with high leverage ratios

Question 42

Savings banks and savings and loans are regulated by a combination of agencies which includes all of the following except:

A)The Federal Reserve System
B)The Office of Thrift Supervision
C)The Federal Deposit Insurance Corporation
D)State authorities

Question 43

In the ten years after the FDIC limit was increased to $100,000:

A)More than four times the number of banks and savings and loans failed than did during the first 46 years of FDIC's existence
B)Less than one-fourth the number of banks and savings and loans failed than during the first 46 years of FDIC's existence
C)The cost to taxpayers of failed institutions in that period was negligible because FDIC was in place
D)About the same number of banks and savings and loans failed than did during the first 46 years of FDIC's existence

Question 44

As a result of government provided deposit insurance, the ratio of assets to capital for commercial banks since the 1920s has:

A)Just about doubled
B)Almost tripled
C)Not changed
D)Decreased

Question 45

Which of the following regulates commercial banks as well as savings banks and savings and loans?

A)The Federal Reserve System
B)The Federal Deposit Insurance Corporation
C)The Office of the Comptroller of the Currency
D)The Internal Revenue Service

Question 46

Under the purchase-and-assumption method of dealing with a failed bank, the FDIC:

A)Finds another bank to take over the insolvent bank
B)Takes over the day to day management of the bank
C)Sells the failed bank to the Federal Reserve
D)Sells off the profitable loans of the failed bank in an open auction

Question 47

Commercial banks are regulated by a combination of agencies including each of the following, except:

A)The Federal Reserve
B)The Office of Thrift Supervision
C)State authorities
D)The Federal Deposit Insurance Corporation

Question 48

Governments employ three strategies to contain the risks created by government safety nets.These include each of the following, except:

A)Government supervision
B)An excise tax on bank profits
C)Government regulation
D)Formal bank examination

Question 49

The government's too-big-to-fail policy applies to:

A)Certain highly populated states where a bank run impacts a large percent of the total population
B)Large banks whose failure would certainly start a widespread panic in the financial system
C)Large corporate payroll accounts held by some banks where many people would lose their income
D)Banks that have branches in more than two states

Question 50

If the government did not offer the too-big-to-fail safety net:

A)Large banks would be more disciplined by the potential loss of large corporate accounts
B)The moral hazard problem of insuring large banks would increase
C)The moral hazard problem of insuring large banks would not be affected
D)The FDIC deposit insurance limits would have to be raised

Question 51

The purpose of the government's safety net for banks is to do each of the following, except:

A)Protect the integrity of the financial system
B)Eliminate all risk that investors face
C)Stop bank panics
D)Improve the efficiency of the economy

Question 52

Since the 1920's, the ratio of assets to capital has almost tripled for commercial banks.Many economists believe this is the direct result of:

A)Lower quality management in banks
B)The increase in branch banking
C)Allowing banks to offer non-bank services
D)Government provided deposit insurance

Question 53

Governments supervise banks mainly to do each of the following, except:

A)Reduce the potential cost to taxpayers of bank failures
B)Be sure the banks are following the regulations set out by banking laws
C)Reduce the moral hazard risk
D)Eliminate all risk faced by investors

Question 54

Many states had their own insurance fund to protect depositors.One problem with these state funds is:

A)They are monopolies in their own state and extract extremely high prices for the insurance they provide
B)They are highly inefficient they cannot achieve the economies of scale a federal fund can achieve
C)They do not have regulators as knowledgeable as the regulators at FDIC
D)No state fund is large enough to withstand a run on all of the banks it insures

Question 55

The government's too-big-to-fail policy:

A)Increases the scrutiny of the bank's risk by large corporate depositors
B)Reduces the risk faced by depositors with accounts less than $250,000
C)Reduces the risk faced by depositors with accounts exceeding $250,000
D)Reduces the moral hazard problem of insuring large banks

Question 56

Which of the following statements is most correct?

A)The higher the deposit insurance limit the lower the risk of moral hazard
B)The higher the deposit insurance limit the greater the risk of moral hazard
C)Deposit insurance limits do not impact moral hazard, they impact adverse selection
D)Increasing the deposit insurance limits above $100,000 would increase coverage for over 50 percent of all depositors

Question 57

Under the purchase-and-assumption method, the FDIC usually finds it:

A)Can sell the failed bank for more than the bank is actually worth
B)Can sell the bank at a price equaling the value of the failed banks assets
C)Has to sell the bank at a negative price since the bank is insolvent
D)Cannot sell the bank and almost always has to revert to the payoff method for dealing with a failed bank

Question 58

Deposit insurance only seems to be viable at the federal level.This is likely due to the fact that:

A)Only a few state funds are large enough to withstand a run on all banks they insure
B)A run on the banks within a state will always spread countrywide
C)The U.S.Treasury backs the FDIC and can therefore withstand virtually any crisis
D)The cost of state insurance is prohibitively high

Question 59

Savings banks and savings and loans are regulated by a combination of agencies which includes the:

A)Federal Reserve System
B)Office of the Comptroller of the Currency
C)Office of Thrift Supervision
D)Internal Revenue Service

Question 60

Considering the methods available to the FDIC for dealing with a failed bank, the depositors of the failed bank should:

A)Be indifferent between the two since it really does not matter to them which method is used
B)Prefer the purchase and assumption method since the deposits over $250,000 will also be protected
C)Prefer the payoff method because they will have access to their funds earlier
D)Prefer the payoff method since a lot less paperwork is involved for the depositor

Question 61

One negative consequence of regulatory competition is:

A)It is expensive
B)Financial institutions are over regulated at a cost to customers
C)Financial institutions often seek out the most lenient regulator
D)It minimizes competition

Question 62

Following the consolidation that resulted from the 2007-2009 financial crisis in the US, the 4 largest commercial banks share of total deposits was:

A)75%
B)50%
C)40%
D)25%

Question 63

Credit Unions are regulated by a combination of agencies which includes:

A)State authorities
B)The Federal Reserve
C)The Federal Deposit Insurance Corporation
D)The Office of the Comptroller of the Currency

Question 64

Bank mergers require government approval because banking officials want to make sure that:

A)The merger will create a larger bank
B)The merger will not create a monopoly in any geographic region
C)If a merger has a small community bank taken over by a larger regional bank that the customers of the small town will still be well-served
D)The merger will not result in regulatory competition

Question 65

Banks can effectively choose their regulators by deciding whether to:

A)Be a private or public corporation
B)Be a member of the Federal Reserve or not
C)Purchase FDIC insurance or to forego the coverage
D)Be chartered at the national or state level

Question 66

Banking regulations prevent banks from:

A)Holding more than 10 percent of their assets in common stock of companies
B)Owning corporate jets
C)Owning common stocks of corporations
D)Building big office buildings

Question 67

Which of the following is not a pillar of the new (1998) Basel Accord?

A)A revised set of minimum capital requirements
B)Supervisory review of bank balance sheets
C)Increased reliance on market discipline to encourage sound risk management practices
D)Uniform international laws for bank regulation

Question 68

The fact that banks can be either nationally or state chartered creates:

A)Situations where some banks go unregulated
B)Situations where banks operating in more than one state can escape regulation
C)Regulatory competition
D)Banks being simultaneously regulated by more than one agency

Question 69

You have savings accounts at two separately FDIC insured banks.At one of the banks your account has a balance of $200,000.At the other bank the account balance is $60,000.If both banks fail, you will receive:

A)$250,000
B)$60,000
C)$260,000
D)$200,000

Question 70

The 1988 Basel Accord is:

A)The basic set of guidelines the Federal Reserve applies in regulating domestic banks
B)A set of guidelines for basic capital requirements for internationally active banks
C)An agreement between state and federal regulators to try to have one standard set of guidelines for all banks
D)A set of guidelines applied only to international banks operating with U.S.boundaries

Question 71

Which of the following is not a positive effect of the Basel Accord?

A)It forced regulators to change the way they thought about bank capital
B)It created a uniform international system
C)It provided a framework that less developed countries could use to improve the regulation of their banks
D)It provided a system to differentiate between bonds based on their default risk

Question 72

By setting fixed rules, regulators create the possibility that those being regulated will:

A)Create ways to evade the rules
B)Ignore the rules
C)Lobby to have the rules changed
D)Clearly understand the rules and follow them

Question 73

One reason that financial regulations restrict the assets that banks can own is to:

A)Combat the moral hazard that government safety nets provide
B)Limit the growth rate of banks
C)Prevent banks from being too profitable
D)Keep banks from spending lavishly on perks for executives

Question 74

You have two savings accounts at an FDIC insured bank.You have $225,000 in one account and $40,000 in the other.If the bank fails, you will receive:

A)$225,000
B)$40,000
C)$115,000
D)$250,000

Question 75

You have savings accounts at two separately FDIC insured banks.At one of the banks your account has a balance of $200,000.At the other bank the account balance is $60,000.You find out the banks are going to merge.If you are concerned about the possibility of the new bank failing, you should:

A)Do nothing; you are still insured up $250,000 per account
B)Consider moving $10,000 to another account at the same bank
C)Consider moving $10,000 to another account at a different bank
D)Do nothing; as an individual you are only insured up $250,000 no matter where the accounts are

Question 76

Financial regulators set capital requirements for banks.One characteristic about these requirements is:

A)Every bank will have to hold the same level
B)The riskier the asset holdings of a bank, the more capital it will be required to have
C)The more branches a bank has, the more capital it must have
D)The amount of capital required is inverse to the amount of assets the bank owns

Question 77

Which of the following statements is most correct?

A)Financial regulators do everything possible to encourage competition in banking
B)Financial regulators work to prevent monopolies but also work to prevent strong competition in banking
C)Financial regulators discourage competition in banking
D)Financial regulators prefer banks to have monopoly power in their geographic markets

Question 78

A long-standing goal of financial regulators has been to:

A)Prevent banks from growing too big and powerful
B)Minimize the competition that banks face
C)Encourage banks to grow as large as possible
D)Discourage small rural banks

Question 79

You hold an FDIC insured savings account at your neighborhood bank jointly with your father.Each of you has contributed equally into the account.The current balance in the account is $120,000.If the bank fails each of you will receive:

A)$60,000
B)$50,000
C)$100,000
D)$120,000

Question 80

You hold an FDIC insured savings account at your neighborhood bank.Your current balance is $275,000.If the bank fails you will receive:

A)$275,000
B)$250,000
C)$100,000
D)$125,000