Deck 10: The Economics of Banking

Question 1

Which of the following statements about checkable deposits is correct?

A) Checkable deposits are a larger fraction of banks' funds today than in 1973.
B) Checkable deposits are a smaller fraction of banks' funds today than in 1973.
C) All checkable deposits pay interest.
D) No checkable deposits pay interest.

Answer 1

B

Question 2

Bank capital is equal to

A) the value of the capital originally invested in the bank by its owners.
B) the value of everything the bank owns.
C) the difference between the value of the bank's assets and the value of its liabilities.
D) the value of the buildings and other physical assets the bank owns.

Answer 2

C

Question 3

Which of the following helps explain why depositors sometimes put their funds in demand deposits rather than NOW accounts?

A) Demand deposits pay interest, whereas NOW accounts do not pay interest.
B) Businesses may not hold NOW accounts.
C) Checks may be written against demand deposits, but not against NOW accounts.
D) Demand deposits are more liquid than NOW accounts.

Answer 3

B

Question 4

A key difference between small-denomination and large-denomination time deposits is that

A) small-denomination time deposits pay no interest.
B) large-denomination time deposits may be bought and sold on secondary markets.
C) large-denomination time deposits carry a significant penalty for early withdrawal.
D) small-denomination time deposits carry a significant penalty for early withdrawal.

Question 5

The difference between a demand deposit and a NOW account is that

A) checks may not be written against NOW account balances.
B) demand deposits pay no interest.
C) NOW accounts pay no interest.
D) checks may not be written against demand deposit balances.

Question 6

Which of the following is a checkable deposit?

A) a NOW account
B) a money market deposit account
C) a certificate of deposit
D) a savings account

Question 7

Which of the following things do banks do with the funds they acquire from savers?

A) invest in corporate stock
B) invest in corporate bonds
C) make loans to individuals
D) all of the above

Question 8

Which of the following represented the largest liability on the balance sheet of U.S.commercial banks in 2010?

A) checkable deposits
B) loans
C) nontransaction deposits
D) borrowings

Question 9

The interest rate on interbank loans is called the

A) discount rate.
B) federal funds rate.
C) repo rate.
D) prime rate.

Question 10

All of the following are examples of borrowings by a bank EXCEPT

A) federal funds.
B) repurchase agreements.
C) discount loans.
D) commercial loans.

Question 11

Which of the following is NOT a nontransaction deposit?

A) a money market deposit account
B) a certificate of deposit
C) a savings account
D) a NOW account

Question 12

On a bank's balance sheet,liabilities are

A) the uses of acquired assets.
B) the sources of acquired funds.
C) all those items of value owned by the bank.
D) by definition equal to the bank's assets.

Question 13

On a bank's balance sheet,assets are

A) the uses of acquired funds.
B) the sources of acquired funds.
C) those items owed by the bank to depositors and others.
D) by definition equal to the bank's liabilities.

Question 14

Which of the following is a bank liability?

A) reserves
B) consumer loans
C) nontransaction deposits
D) securities

Question 15

Which of the following is NOT a bank liability?

A) checkable deposits
B) CDs
C) mortgage loans
D) borrowings from the Federal Reserve

Question 16

Short-term loans between banks are called

A) federal funds.
B) repurchase agreements.
C) repos.
D) discount loans.

Question 17

Securities that banks sell and agree to repurchase are known as

A) federal funds.
B) discount loans.
C) repurchase agreements.
D) NOW accounts.

Question 18

A balance sheet

A) is a statement showing an individual's or a firm's financial position at a particular point in time.
B) is a statement showing an individual's or a firm's income over a period of time.
C) is a statement listing the tax liabilities incurred by an individual or a firm.
D) can be constructed for any nonfinancial firm, but cannot be constructed for a financial firm.

Question 19

The difference between a savings deposit and a time deposit is

A) time deposits pay no interest.
B) savings deposits pay no interest.
C) time deposits have specified maturities.
D) savings deposits have specified maturities.

Question 20

A checkable deposit that pays no interest is known as a

A) demand deposit.
B) certificate of deposit.
C) NOW account.
D) time deposit.

Question 21

On a bank's balance sheet,"borrowings" are

A) loans to households.
B) loans to businesses.
C) nondeposit liabilities.
D) U.S. Treasury securities.

Question 22

What is the largest category of bank assets?

A) loans
B) reserves
C) securities
D) cash items in the process of collection

Question 23

Bank capital is

A) the current market value of the bank's physical assets.
B) the historical or original value of the bank's physical assets.
C) the capital contributed by the bank's shareholders plus accumulated retained profits.
D) the sum of the value of the bank's assets plus the value of the bank's liabilities.

Question 24

In which of the following assets are commercial banks in the United States NOT allowed to invest checkable deposits?

A) home mortgages
B) corporate bonds
C) municipal bonds
D) U.S. Treasury bonds

Question 25

Which of the following is a bank asset?

A) checkable deposits
B) savings deposits
C) borrowings in the federal funds market
D) cash items in the process of collection

Question 26

Any reserves beyond what is required are called

A) required reserves.
B) excess reserves.
C) secondary reserves.
D) bank capital.

Question 27

Which of the following is NOT considered a cash item by banks?

A) U.S. Treasury bills
B) deposits at other banks
C) deposits at the Federal Reserve
D) vault cash

Question 28

The interest rate on unsecured loans between banks is called the

A) discount rate.
B) repurchase rate.
C) T-bill rate.
D) federal funds rate.

Question 29

Why are U.S.government securities referred to as a bank's secondary reserves?

A) Their current market value may count toward meeting a bank's legal reserve requirements.
B) They are very liquid.
C) Banks are legally required to hold a certain minimum amount of these securities.
D) They are the same thing as vault cash.

Question 30

Which asset is sometimes referred to as a bank's secondary reserves?

A) vault cash
B) U.S. government securities
C) repurchase agreements
D) federal funds

Question 31

A cash item in the process of collection is

A) a U.S. Treasury bill that has matured, but for which the bank has not yet received payment.
B) a car loan payment that is due but not yet received by the bank.
C) a check drawn against another bank, from whom the funds have not yet been collected.
D) currency that has been deposited in the bank, but not yet formally counted and entered into the bank's balance sheet.

Question 32

Loans by the Federal Reserve to banks are known as

A) repurchase agreements.
B) Federal funds.
C) discount loans.
D) cash items in the process of collection.

Question 33

What is the current limit on balances that are covered by federal deposit insurance?

A) $100,000
B) $250,000
C) $500,000
D) $1,000,000

Question 34

Banks use repurchase agreements to

A) ensure that payments on consumer loans are made on time.
B) borrow funds from business firms or other banks.
C) guard against price fluctuations on long-term bonds.
D) ensure that they always have enough funds on hand to meet their federal tax liabilities.

Question 35

Federal funds are

A) the tax revenues of the Federal government.
B) loans by the Federal Reserve to banks.
C) loans by banks to the Federal Reserve.
D) short-term loans between banks.

Question 36

Required reserves are

A) the portion of demand deposits and NOW accounts banks must hold.
B) zero on demand deposits.
C) zero on NOW accounts.
D) imposed on all deposits at commercial banks.

Question 37

What percentage of bank assets were in loans in 2010?

A) 7.5%
B) 20%
C) 37%
D) 60%

Question 38

About what percentage of bank assets is made up of cash items in 2010?

A) 7.5%
B) 20%
C) 37%
D) 50%

Question 39

What percentage of bank assets were in security holdings in 2010?

A) 5%
B) 13%
C) 20%
D) 37%

Question 40

A bank's remaining value after it has met all its liabilities is known as a

A) bank's assets.
B) bank's liabilities.
C) bank capital.
D) bank's income.

Question 41

A bank's costs include all of the following EXCEPT

A) the interest it pays to depositors.
B) the interest it pays on its loans or debt.
C) the cost of providing services.
D) the fees paid to maintain its reserve at the Federal Reserve.

Question 42

If the Federal Reserve did not require them to do so,would banks still hold reserves?

Question 43

If you have a checking account at First National Bank,the account is

A) an asset to both you and First National.
B) a liability to both you and First National.
C) an asset to First National and a liability to you.
D) an asset to you and a liability to First National.

Question 44

What are the different forms of bank borrowings?

Question 45

A bank's revenue comes from all of the following EXCEPT

A) interest earned on vault cash.
B) fees for services provided.
C) interest on loans.
D) interest on securities.

Question 46

Excess reserves equal

A) total reserves less required reserves.
B) required reserves less total reserves.
C) total reserves plus required reserves.
D) required reserves divided by total reserves.

Question 47

When a bank issues a checkable deposit and loans the funds out to a business,it has transformed

A) a financial asset for a saver into a liability for a borrower.
B) a financial liability for a saver into a financial asset for a borrower.
C) a short-term liability to a borrower into a long-term asset to a saver.
D) one liability into another liability.

Question 48

What is a repurchase agreement?

Question 49

If the value of bank's loans declines,what is the corresponding reduction in a liability entry that the bank makes?

A) Deposits are reduced by the amount of the decline in the value of the loan.
B) Borrowings are reduced by the amount of the decline in the value of the loan.
C) Net worth is reduced by the amount of the decline in the value of the loan.
D) Cash items in the process of collection are reduced by the amount of the decline in the value of the loan.

Question 50

In what ways does a certificate of deposit (CD)differ from a savings deposit?

Question 51

Compare the characteristics of loans and marketable securities in terms of liquidity,risk,and information costs.

Question 52

Why do households hold less in checking accounts then they once did?

Question 53

In 2010,net worth was about what percentage of total funds raised by banks?

A) 2%
B) 7%
C) 12%
D) 35%

Question 54

The portion of bank capital set aside in anticipation of future loan losses is known as

A) required reserves.
B) excess reserves.
C) secondary reserves.
D) loan loss reserves.

Question 55

Which of the following is the source of funds for bank loans?

A) marketable securities
B) required reserves
C) excess reserves
D) bank capital

Question 56

If you deposit a $50 check in the bank,the immediate impact on your bank's balance sheet will be a

A) $50 increase in reserves and a $50 increase in checkable deposits.
B) $50 decrease in reserves and a $50 increase in checkable deposits.
C) $50 increase in reserves and a $50 decrease in checkable deposits.
D) $50 decrease in liabilities and a $50 increase in checkable deposits.

Question 57

What are the advantages of bank deposits compared to other types of assets?

Question 58

In banking,the spread refers to the difference between the

A) interest rate on long-term bonds and the interest rate on short-term bonds.
B) interest rate on car loans and the interest rate on home mortgages.
C) average interest rate earned on assets and the average interest rate paid on liabilities.
D) bid and asked prices on a bond.

Question 59

If you deposit $300 in your bank and the required reserve ratio is 10%,your bank will have

A) an increase in required reserves of $300.
B) an increase in required reserves of $270.
C) an increase in required reserves of $3000.
D) an increase in required reserves of $30 and an increase in excess reserves of $270.

Question 60

What is an important difference between certificates of deposits (CDs)worth less than $100,000 compared to those worth $100,000 or more?

Question 61

A loan officer uses a credit scoring system to

A) compare the interest rate on a loan to interest rates on other assets with comparable risk.
B) keep track of the fraction of a bank's assets tied up in loans to a single individual or business.
C) predict statistically whether an individual is likely to default on a loan.
D) match any particular loan with the deposits being used to fund it.

Question 62

In managing its liabilities to deal with liquidity problems,banks trade off

A) credit risk against interest rate risk.
B) adverse selection against moral hazard.
C) the need for available funds to meet deposit outflows against the desire for greater profit.
D) present tax liabilities against future tax liabilities.

Question 63

How does moral hazard contribute to high bank leverage?

Question 64

If a bank has a leverage ratio of 0.1 and a return on capital of 2%,what is its return on equity?

A) 0.2%
B) 2.1%
C) 5%
D) 20%

Question 65

Banks use "credit-risk analysis" to

A) determine the appropriate interest rate to charge borrowers.
B) determine whether to invest in the stock of a corporation.
C) determine the appropriate interest rate to pay depositors.
D) determine the likelihood of an audit by bank regulators.

Question 66

Moral hazard can contribute to high bank leverage in all of the following ways EXCEPT

A) having high capital requirements.
B) bank managers are compensated in part on providing shareholders with high returns on equity.
C) high bank leverage provides shareholders with a potential for a higher return on equity.
D) federal deposit insurance has reduced the incentive of depositors to monitor the behavior of bank managers.

Question 67

Credit risk is the risk that

A) an insufficient number of borrowers will apply for loans or credit.
B) interest rates will rise after a loan has been granted.
C) interest rates will fall after a loan has been granted.
D) borrowers might default on their loans.

Question 68

The ratio of a bank's after-tax profit to bank capital is known as

A) net interest margin.
B) return on equity.
C) return on capital.
D) spread.

Question 69

Why do banks make use of loan loss reserves?

Question 70

The ratio of a bank's after-tax profit to its assets is known as

A) net interest margin.
B) return on equity.
C) return on capital.
D) spread.

Question 71

Suppose a bank has assets of $500 million and capital of $100 million.Its return on assets is -3%.What is its leverage ratio? What is its return on equity?

Question 72

The ratio of bank capital to bank assets is known as the bank's

A) leverage ratio.
B) net interest margin.
C) return on equity.
D) return on capital.

Question 73

Suppose First National Bank has $200 million of assets and $20 million of equity capital.If First National has a 2% return on assets (ROA),what is its return on equity (ROE)? Suppose First National's equity capital declines to $10 million,while its assets and ROA are unchanged.What is First National's ROE now?

Question 74

In order to reduce the likelihood of excessive leverage in the banking system,governments have traditionally

A) imposed capital requirements on commercial banks.
B) imposed capital requirement on investment banks.
C) imposed capital requirements on both commercial and investment banks.
D) imposed asset requirements on all banks.

Question 75

A person takes out a car loan at a bank,but actually uses the money to play the lottery.This situation is an example of which problem banks face in lending?

A) adverse selection
B) moral hazard
C) interest rate risk
D) illiquidity

Question 76

Suppose a bank has $10 million in capital,$100 million in assets,and after-tax profit of $2 million? what is its return on assets? What is its return on equity?

Question 77

If a bank's ratio of assets to capital is 25 and it's return on assets is -5%,what is its return on equity?

A) -0.2%
B) -5%
C) -30%
D) -125%

Question 78

When bank loan officers screen loan applicants to eliminate potentially bad risks,they are attempting to mitigate the problem of

A) adverse selection.
B) moral hazard.
C) interest rate risk.
D) illiquidity.

Question 79

The difference between the interest a bank earns on loans and securities and the interest paid on deposits and debt divided by the total value of its assets is called

A) interest spread.
B) net interest margin.
C) return on assets.
D) return on equity.

Question 80

Banks make use of the federal funds market in part to

A) pay their tax liabilities.
B) manage liquidity risk.
C) deal with moral hazard.
D) deal with adverse selection.