4.4 The Financial Sector

Question 1

what are the diff. types of market failure that can occur within the financial market?

Answer 1

• asymmetric informaiton
• externalities
• moral hazard
• speculation + market bubbles
• market rigging

Question 2

what is the theory of moral hazard?

Answer 2

when individuals/organisations are insured against suffering from the losses associated with economic decisions; they will act with less regard to the negative impact of those decisions

Question 3

what is an example of moral hazard within the financial market

Answer 3

if a house is insured, the borrower might be less careful because they know any damaged caused will be paid by someone else

Question 4

what is meant by market rigging

Answer 4

where a group of individuals or institutions collude to fix prices or exchange
information that will lead to gains for themselves at the expense of other participants in the market

Question 5

what is an example of market rigging

Answer 5

LIBOR (London Interbank Offered Rate) scandal -> involved Citicorp, JPMorgan, Barclay’s, RBS -> manipulated interest rates to make profits

Question 6

what are the functions of a financial market

Answer 6

• facilitate saving by businesses + households
• lend to businesses and individuals
• facilitate the exchange of goods + services
• provide forward markets in currencies + commodities
• provide a market for equities

Question 7

what are the functions of the central bank

Answer 7

• banker to the government
• banker to other banks - ‘lender of last resort
• ## implentation of monetary policy; financial regulation