Question 1

Secondary securities are securities that serve as collateral for primary securities.

Accepted Answer

Secondary securities are those traded in the secondary market, which means they are bought and sold after the original issuance in the primary market, not serving as collateral for primary securities.

Question 2

If not done by FIs, the process of monitoring the actions of borrowers would reduce the attractiveness and increase the risk of investing in corporate debt and equity by individuals.

Accepted Answer

If borrowers are not monitored by FIs, it would increase the risk of investing in corporate debt and equity as individuals would not have access to the same level of information and analysis as institutions, making it less attractive for them to invest.

Question 3

An FI acting as an agent in matching savers and borrowers of funds can attain economies of scale and provide this service more efficiently than either the saver or borrower could on their own.

Accepted Answer

This statement is true. By acting as an intermediary between savers and borrowers, an FI can pool funds from many savers and allocate them efficiently to borrowers, resulting in economies of scale that can reduce costs and provide a more efficient service overall.

Question 4

If a household invests in corporate securities and does not supervise how the funds are invested or used by the corporation, the risk of not earning the desired return or not having the funds returned increase.

Accepted Answer

If a household invests in corporate securities and does not supervise how the funds are invested or used by the corporation, there is a risk of the corporation not investing the funds effectively, leading to lower returns or even loss of funds. Additionally, if the corporation faces financial difficulties, there may be a risk of not having the funds returned. Therefore, it is important for investors to monitor their investments and the activities of the corporations they invest in.

Question 5

The asset transformation function of an FI is to issue primary financial claims to corporations while purchasing primary claims issued by households and other investors.

Accepted Answer

The answer of The asset transformation function of an FI...

Question 6

Because bank loans have a shorter maturity than most debt contracts, FIs typically exercise less monitoring power and control over the borrower.

Accepted Answer

Bank loans often have covenants and terms that allow banks significant monitoring power and control over the borrower, more so than many longer-term debt contracts which might be more standardized and less closely monitored.

Question 7

Financial institutions act as intermediaries between suppliers and demanders of money.

Accepted Answer

Financial institutions such as banks, credit unions, and investment firms facilitate the transfer of funds from those who have excess funds to those who need them. This process of financial intermediation is a key function of financial institutions.

Question 8

When an FI functions as a broker, they are selling a financial asset that they have created and will continue to hold on their balance sheet.

Accepted Answer

When an FI functions as a broker, they are facilitating the trade of financial assets between two parties, but they are not necessarily selling an asset that they have created and will continue to hold on their balance sheet. They may simply be matching buyers and sellers of existing financial assets.

Question 9

Deposit-taking institutions serve as the primary conduit through which monetary policy actions impact the economy.

Accepted Answer

Deposit-taking institutions, such as banks, play a crucial role in monetary policy transmission. By adjusting interest rates, central banks can influence the cost of credit and borrowing, which can affect consumer and business spending. Deposit-taking institutions are the primary intermediaries that transform central bank policies into changes in the real economy.

Question 10

As a delegated monitor, an FI's actions reduce agency costs.

Accepted Answer

As a delegated monitor, an FI acts on behalf of the principal to reduce agency costs by monitoring and controlling the behavior of agents, such as borrowers or depositors. This helps align the interests of the principal with those of the agents, leading to efficient and effective use of resources.

Question 11

An FI is exposed to liquidity risk because the average maturity of assets and the average maturity of liabilities are often different on the FIs balance sheet.

Accepted Answer

The answer of An FI is exposed to liquidity risk...

Question 12

As an asset transformer, the FI issues financial claims that are more attractive to household savers than the claims directly issued by corporations.

Accepted Answer

As an asset transformer, the financial intermediary (FI) can issue financial claims that are more attractive to household savers, such as savings accounts or certificates of deposit, as these are often perceived as being safer and more liquid than the claims directly issued by corporations.

Question 13

The ability of diversification to eliminate much of the risk from the asset side of the balance sheet of an FI is the result of choosing assets that are less than perfectly positively correlated.

Accepted Answer

Diversification allows an FI to hold a portfolio of assets that are not perfectly positively correlated, which reduces the overall risk of the portfolio.

Question 14

The risk that the sale price of an asset will be less than the purchase price of an asset is called liquidity risk.

Accepted Answer

The risk that the sale price of an asset will be less than the purchase price of an asset is known as market risk. Liquidity risk refers to the risk of not being able to sell an asset quickly enough to prevent a loss or to access funds when needed.

Question 15

Research shows that there is a significant reduction in risk achieved by investing in as few as 8 different securities.

Accepted Answer

The answer of Research shows that there is a significant...

Question 16

The more costly it is to supervise the use of funds by a borrower, the less likely a saver will encounter agency costs.

Accepted Answer

This statement is incorrect. The more costly it is to supervise the use of funds by a borrower, the more likely a saver will encounter agency costs, as there will be a higher risk that the borrower will misuse or misallocate the funds.

Question 17

Financial institutions are subject to economies of scale in the collection of information.

Accepted Answer

Financial institutions, such as banks, can benefit from economies of scale in the collection of information. As they collect information from a large number of customers or clients, they can spread the fixed costs of data collection and analysis over a larger base. This can lead to lower costs per unit of information collected, allowing them to improve their overall efficiency and profitability.

Question 18

FIs typically provide secondary claims to household savers that have inferior liquidity than primary securities of corporations such as equity and bonds.

Accepted Answer

The answer of FIs typically provide secondary claims to household...

Question 19

FIs are independent market entities that create financial assets whose value is the transformation of financial risk.

Accepted Answer

FIs, or financial institutions, create financial assets such as stocks, bonds, and loans that involve the transformation of financial risk. This allows investors to manage their exposure to risk and potentially earn a return on their investment.

Question 20

Failure to monitor the actions of firms in a timely and complete fashion after purchasing securities in that firm exposes the investor to agency costs.

Accepted Answer

Failure to monitor the actions of firms after purchasing securities can lead to agency costs, which refer to costs incurred due to conflicts of interest between the investor and the management of the firm. Thus, it is essential to monitor the actions of the firm in a timely and complete manner to avoid such costs.

Quiz 1: Why Are Financial Institutions Special