Econ 215 Test 2

Front 1

Role of Financial Institutions

Back 1

allocate economic resources efficiently in financial markets to their most productive uses

Front 2

Why are financial intermediaries so important?

Back 2

Pooling savings; safekeeping and accounting; provide liquidity; diversify risk; collect and process information services

Front 3

pooling savings

Back 3

accepting resources from a large number of small savers/lenders in order to provide large loans to borrowers

Front 4

safekeeping and accounting

Back 4

keeping depositors savings safe, giving them access to the payments system, and providing them with accounting statements that help them to track their income and expenditures

Front 5

Providing liquidity

Back 5

allowing depositors to transform their financial assets into money, quickly, easily and at low cost

Front 6

diversifying risk

Back 6

providing investors with the ability to diversify even small investments

Front 7

collecting and processing information services

Back 7

generating large amounts of standardized financial information

Front 8

information asymmetries

Back 8

the borrowers who want to issue bonds and firms that want to issue stock know more about their prospects and their willingness to work than the lenders or investors (people who would buy their stocks and bonds)

Front 9

2 types of information asymmetries

Back 9

adverse selection and moral hazard

Front 10

adverse selection

Back 10

arises before the transaction occurs; just as buyers on ebay need to know the relative trustworthiness of sellers, lenders need to know how to distinguish good credit risks from bad; solutions: gov't-required information disclosure; private collection of information; pledging collateral to insure lenders against the borrowers default; requiring borrowers to invest substantial resources of their own

Front 11

moral hazard

Back 11

occurs after the transaction; lenders need to find a way to tell whether borrowers will use the proceeds of a loan as they claim they will; solutions: require managers to report to owners; require managers to invest substantial resources of their own; covenants that restrict what borrowers can do with borrowed funds

Front 12

depository institutions

Back 12

these are financial institutions that accept deposits from savers and make loans to borrowers. include commercial banks, savings and loans, and credit unions, the intermediaries ost of us encounter in the course of our day-to-day lives

Front 13

total bank assets = ???

Back 13

total bank liabilities + bank capital

Front 14

Assets:

Back 14

cash, securities, loans, and all other assets

Front 15

liabilities:

Back 15

checkable deposits, nontransaction deposits, borrowings

Front 16

liquidity risk:

Back 16

liabilities holders cash their claims

Front 17

Solution for liquidity risk on asset side

Back 17

sell securities or reduce loans

Front 18

solution for liquidity risk on liability side

Back 18

borrow or attract deposits

Front 19

how do banks deal with capital/liquidity problems

Back 19

credit risks, interest rate risk, trading risk

Front 20

credit risk

Back 20

risk that a borrower will not repay loan; fix with diversification

Front 21

interest rate risk

Back 21

risk that interest rate will change, changing bond prices with it. Or it will affect a financial intermediaries net worth, comes from mismatch in maturities and assets; fix with gap-analysis

Front 22

trading risk

Back 22

the risk that traders who work for the bank will create losses themselves. moral hazard problem; fix it by making them lose more by sucking

Front 23

dual banking system

Back 23

system in the u.s. in which banks supervised by federal government and state government authorities coexist

Front 24

glass-steagall act of 1933

Back 24

created the federal deposit insurance corporation (FDIC) and severely limited the activities of commercial banks. FDIC provided insurance