T4 THE FINANCIAL SECTOR Flashcards
What are the role of financial markets (5)
Facilitating saving
facilitating lending
facilitating exchange
providing a market for equity
provide forward markets
What are forwards/forward contracts
special contracts that guarantee that a trade happens at a later date at a certain price.
benefit of forward contracts for commodities
The person buying the commodity has the security of knowing the exact price they will pay
What is meant by equity
When firms sell a percentage of their company to investors in the form of shares. The investors can then receive a percentage of the profits.
What are the 5 types of market failure in the financial sector
asymmetric information
speculation and market bubbles
negative externalities
moral hazard
market rigging
what is asymmetric information
when one party knows more than another in a transaction
real world example of asymmetric information
before the 2008 financial crisis Bankers knew far more about banking than the financial regulators who were meant to be monitoring their behaviour.
Also: Bankers knew much more about their adjustable rate subprime mortgages than the people they were selling them to
real world example of market bubbles and speculation
before 2008 crisis bankers thought House prices would rise - so they sold subprime mortgages, which caused a housing bubble.
Why might an asset bubble ‘burst’ ?
People start to realise the assets are overvalued and so they sell them
what are negative externalities
costs which affect third parties outside the price mechanism
what are market bubbles
As the price of an asset increases, demand for that asset increases. This increases the price of the asset further and the cycle continues until the asset become hugely overvalued.
what is moral hazard
when a individual or firm takes more risks because someone else is bearing the consequences risks
real world example of moral hazard
Government used 700 billion of taxpayer money to bail out banks
this meant in future Banks lending irresponsibly because they believed the government would bail them out
what is market rigging
where firms unfairly try to control prices which distorts the price mechanism
real world example of market rigging
what roles does the bank of england carry out (4)
lending to high street banks and the government.
implement monetary policies, manipulating money supply and interest rates.
regulation of high street banks, often through stress tests
finance other banks and the government
what is QE simply put
When the central bank buys financial assets from highstreet banks in order to encourage them to lend
In what way is the role of central banks different to the role of normal banks?
Central banks finance other banks and the government
which financial regulations did the federal reserve impose in 2011
Basel III - a strict set of regulations on US banks
