Question 1

Discuss the recent trends in bank performance measures.

Accepted Answer

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Question 2

To keep enough cash on hand to meet depositors' demand for withdrawals, banks must engage in liquidity management.

Accepted Answer

Banks must have enough cash on hand to meet the demands of depositors who want to withdraw their money. This requires careful liquidity management to ensure that the bank has enough cash reserves and liquid assets to meet these demands without causing a bank run.

Question 3

Owners cannot write checks on nontransaction deposits, but the interest rate paid on these deposits are usually higher than those on checkable deposits.

Accepted Answer

Owners cannot write checks on nontransaction deposits such as savings accounts or CDs, but they usually earn a higher interest rate compared to checkable deposits like a checking account.

Question 4

Deposits that banks keep in accounts at the Federal Reserve less vault cash is called reserves.

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Question 5

What are a bank's major sources and uses of funds?

Accepted Answer

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Question 6

Loan loss reserves are an asset on a bank's balance sheet.

Accepted Answer

Loan loss reserves are a liability or contra-asset account on a bank's balance sheet, representing funds set aside to cover potential future loan losses.

Question 7

The value-at-risk method for estimating a bank's risk exposure measures the losses a bank could incur under a worst-case scenario.

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Question 8

Explain the off-balance-sheet activities banks engage in, the risks they face from undertaking these activities, and the controls they put in place to restrict bank employees from taking on too much risk.

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Question 9

A loan commitment is an agreement to provide a loan up to a certain dollar amount if a customer requests the loan during a specific time period.

Accepted Answer

A loan commitment is exactly what the statement describes - an agreement to provide a loan if the customer requests it during a specific period of time, up to a certain dollar amount.

Question 10

What is the major focus of each of the following bank management concerns: asset management, liability management, liquidity management, and capital adequacy management?

Accepted Answer

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Question 11

Off-balance-sheet activities consist of trading financial instruments and generating income from fees and loan sales, all of which affect bank profits but are not visible on bank balance sheets.

Accepted Answer

Off-balance-sheet activities refer to activities or financial instruments that do not appear on a bank's balance sheet but can impact profits, such as loan commitments, derivatives trading, and securitization. These activities can be significant sources of revenue for banks but can also expose them to additional risk.

Question 12

When a bank receives additional deposits, it gains an equal amount of reserves; when it loses deposits, it loses an equal amount of reserves.

Accepted Answer

This statement is true under the fractional reserve banking system, where banks are required to hold a portion of their deposits as reserves. When a bank receives additional deposits, it can increase its lending and investment activities, but it must also hold a portion of those deposits as reserves. Similarly, if a bank loses deposits, it must reduce its lending and investment activities and may also need to reduce its reserves. Therefore, changes in deposits and reserves are often tied together.

Question 13

In recent years, the interest paid on checkable and time deposits has accounted for around ________ of total bank operating expenses, while the costs involved in running the bank have been approximately ________ of total operating expenses.

Accepted Answer

Interest paid on deposits typically accounts for around 30% of total bank operating expenses, while the costs of running the bank, such as salaries and infrastructure, account for about 50%.

Question 14

The share of bank operating income earned from off-balance-sheet activities has increased over the past two decades.

Accepted Answer

According to data from the Federal Reserve Bank of St. Louis, the share of bank operating income earned from off-balance-sheet activities has steadily increased from about 25% in the mid-1990s to over 40% in recent years.

Question 15

Required reserves are insurance against the costs associated with deposit outflows. The higher the costs associated with deposit outflows, the more required reserves banks will want to hold.

Accepted Answer

Required reserves are determined by central bank regulations, not by banks' own assessments of the costs associated with deposit outflows. They are meant to ensure liquidity and stability in the banking system, rather than serving as insurance against specific costs.

Question 16

Given a bank's return on assets, the higher the bank capital, the higher the return for the owners of the bank.

Accepted Answer

A bank's return on assets (ROA) is a measure of how efficiently it uses its assets to generate profit. The return for the owners of the bank (return on equity or ROE) is influenced by the bank's leverage, which is the ratio of its total assets to its equity (capital). Higher bank capital means lower leverage, which can actually lead to a lower return on equity if the return on assets remains constant, because the earnings are spread over a larger amount of equity.

Question 17

Since a bank's assets exceed its equity capital, the return on assets always exceeds the return on equity.

Accepted Answer

The return on assets (ROA) and the return on equity (ROE) measure different things. ROA is net income divided by total assets, showing how efficiently a company uses its assets to generate profit. ROE is net income divided by shareholder equity, indicating how effectively a company uses equity financing to generate profits. A bank's assets exceeding its equity capital does not inherently mean ROA will exceed ROE; in fact, ROE is often higher because equity is a smaller base than total assets.

Question 18

Nontransaction deposits are the primary source of bank funds.

Accepted Answer

Nontransaction deposits, such as savings accounts and time deposits, are a significant source of bank funds as they provide the bank with long-term, stable funds for lending and investment activities.

Question 19

Since their introduction in 1961, negotiable CDs have become an important source of bank funds.

Accepted Answer

Negotiable CDs have indeed become an important source of bank funds since their introduction in 1961.

Question 20

A bank maintains bank capital to lessen the chance that it will become insolvent.

Accepted Answer

Bank capital serves as a buffer against unexpected losses and helps to maintain the solvency of the bank.

Quiz 17: Banking and the Management of Financial Institutions