Which of the following would be an example of interest rate risk?
A)An increase in interest rates such that the return on an FI's assets increases relative to the costs of its liabilities.
B)An increase in interest rates so that the costs of an FI's liabilities increase relative to the return on its assets.
C)A decrease in interest rates such that the return on an FI's assets increases relative to the costs of its liabilities.
D)A change in interest rates such that the return on an FI's assets exceeds the costs of its liabilities.

Question

Quizplus · Accepted Answer

Interest rate risk is the risk that changes in interest rates will affect the profitability of a financial institution. In option B, an increase in interest rates would increase the costs of the FI's liabilities (e.g. deposits) relative to the return on its assets (e.g. loans), which would decrease profitability. Option A describes a situation of decreased interest rate risk, as the FI's assets would be more profitable relative to its liabilities. Option C is also a situation of decreased interest rate risk. Option D does not provide clear information regarding the direction of interest rate changes and the effect on the FI's profitability, so it cannot be classified as an example of interest rate risk.

Which of the Following Would Be an Example of Interest