Exam Prep - Short Questions

Question 1

What are the advantages of having banks make loans as opposed to
having only a peer-to-peer lending system? Are there any disadvantages
of banks playing this role?

Answer 1

Advantages:
- Pooling Savings
- Risk Diversification
- Information Processing
- Maturity Transformation
Disadvantage:
- Potential for Instability

Question 2

“A bank’s capital is money that they have to set aside to help them cope
with difficult times in the future.” Discuss this statement, indicating which parts of it (if any) are correct and which are incorrect.

Question 3

Describe how central banks create money via open market operations. Do any of the parties involved end up better off after an open market
operation?

Answer 3

1. CB purchases a security worth $1,000 from Janet
2. Janet then deposits the cheque - at OmoBank
3. When OmoBank presents the cheque for payment to the CB, the CB credits OmoBank’s reserve account by $1,000
4. OmoBank can, if they wish, swap these additional reserves for cash to put in ATM machines.
   When OmoBank orders a delivery of cash from the CB, its reserve account is reduced by that amount.
   The Central Bank ends up better off.
   The central bank has a new asset worth $1,000 while it has an additional $1,000 while it has an additional $1,000 in reserves that are owned by OmoBank.
   Provided the new asset earns more interest than the CB pays to OmoBank, then the CB will have an additional flow of profits and will be able to transfer some of these profits back to central government.

Question 4

What is described by a central bank’s balance sheet? Should the public be
concerned about a central bank’s solvency?

Question 5

What is Value at Risk (VaR)? How is this concept used in banking
regulation and what issues does the use of VaR raise for bank
supervisors?

Answer 5

VaR is a statistical measure that estimates the potential loss of a bank’s portfolio over a given time period for a given confidence level. It’s typically used to assess the riskiness of a bank’s assets and to set capital requirements.

Question 6

Discuss some arguments for and against requiring a significant increase in the amount of equity capital banks must have. Which arguments are the
most convincing?

Question 7

Explain how a constant minimum regulatory capital ratio can exacerbate
the procyclical tendencies of the economy. What would a macro-prudential approach to regulation suggest as an alternative to a constant regulatory
capital ratio requirement?

Question 8

Discuss the following statement. “When a bank makes a loan to someone, they simply add money to a deposit account within their own bank for that person. This shows that banks are not actually financial intermediaries
who fund their loans via taking in deposits.”

Question 9

Discuss the relationship between the monetary base and the M1 measure
of the money supply. How has this relationship evolved since 2008 in the
United States?

Question 10

What is the Quantity Theory of Money? How well does it work in practice?

Question 11

How did the Federal Reserve influence the Federal funds rate before
2008? How and why has its approach changed since then?

Question 12

How does the ECB influence short-term European private-sector interest
rates? How and why have these procedures changed in recent years?