Lecture 2 (NEW) Flashcards
explain the developments leading to the 2007-2008 financial crisis?
- US government encouraged home ownership & lenders were willing to lend to risky borrowers
- in 2006, the housing prices bubble burst, which means a sharp decrease in housing prices
- many homeowners were unable to make their mortgage loan repayments
- MBSs declined in value along with housing prices
- many financial institutions had inadequate capital due to loss in value of their MBSs
- this caused a credit crunch and a major decline in economic activity
- the government then bailed out troubled financial institutions
what is an MBS?
a debt security collateralised by a pool of mortgage loans
where are MBSs traded?
secondary market
who sells MBSs to who?
commercial banks pool together loans and sell the CDO to investment banks who then sell them to individual investors
why do commercial banks sell MBSs?
to outsource risk and raise capital
the banks as the middleman between who and who with MBSs?
the home buyers and the investors
what is the savings-investment process also known as?
financial intermediation
financial intermediation = ?
the direct/indirect transfer of individual savings to business firms in exchange for debt/equity securities from the firm
direct savings-investment process?
savers buy securities directly from business firms for money
indirect transfers in the savings investment process = ?
investment banks are middlemen and facilitate the transfer by purchasing and reselling the business firms securities to savers
savers deposit money in a financial institution who issues their own securities to the saver and then lend their own money to business firms in exchange for securities
what does the US monetary system consist of?
central bank
federal reserve
commercial banking system
how does the banking system create money?
e.g.,
- bank a receives savings of £1000 from abc corp who sets up a checking account
- the £1000 are stored as reserves
- bank a holds £200 as reserves and lends out £800 to xyz corp
- xyz will place the loan proceeds in bank b
the initial £1000 has expanded to £1800 now
money markets = ?
money market securities = ?
money markets = markets where securities are traded
money market securities = securities with one year or less maturity
primary & secondary markets = ?
primary = where securities are originated (IPO)
secondary = where securities are traded
what are the 6 money market securities?
treasury bill
negotiable CD
federal funds
repurchase agreement
bankers acceptance
commercial paper
treasury bill = ?
short term debt instrument issued by US government
commercial paper = ?
short-term unsecured note issued by high credit-quality corporations
negotiable CD = ?
short term debt instrument issued by a depository institution
bankers acceptance = ?
promise of future payment issued by importing firm and guaranteed by a bank
repurchase agreement = ?
short term debt security where the seller agrees to repurchase at a specific date and price
federal funds = ?
very short term loans made between depository institutions
components of M1?
currency
travellers checks
checking accounts/demand deposits
components of M2?
all of M1
savings accounts
small-denomination time-deposits: under $100,000
retail MMMFs
exclusions from MS?
credit cards
stock & bond mutual funds (fluctuate too much in value)
monetarists view?
amount of money in circulation determines GDP
keynesians view?
change in MS causes change in interest rates
change in interest rates alters demand for goods/services
change in demand for goods/services causes GDP to grow
