Topic 3

Question 1

Which of the following is not a role of a financial institution acting as a financial intermediary?

A. Pooling the resources of small savers
B. Formulating oversight regulations
C. Providing ways to diversify risk
D. Supplying liquidity

Answer 1

A. Pooling the resources of small savers (B?)

Question 2

By gathering lots of small deposits and making a smaller number of loans, a bank

A. Increases the risks of savers
B. Increases diversification of savers
C. Decreases liquidity
D. Increases information asymmetries
E. Both B and C are correct

Answer 2

A. Increases the risks of savers

Question 3

An insurance company is calculating the appropriate premium for a new customer. It estimates that the risk of a heart attack is 5% and the cost would be $50,000. In addition, it estimates the risk of a stroke is 1% with a cost of $100,000. How much should it charge for insurance?

A. $1,000
B. $2,500
C. $3,500
D. $150,000
E. None of the above

Answer 3

C. $3,500

Question 4

An insurance company is calculating the appropriate premium for a new customer. It estimates that the risk of a heart attack is 50% and the cost would be $50,000. In addition, it estimates the risk of a stroke is 100% with a cost of $100,000. How much should it charge for insurance?

A. $25,000
B. $100,000
C. $125,000
D. $150,000
E. None of the above

Answer 4

C. $125,000

Question 5

In a pooling equilibrium, everyone pays ____ while in a separating equilibrium everyone pays ____.

A. The same premium; different premiums
B. Different premiums; the same premium
C. Everyone pays the same premium in both
D. Everyone pays different premiums in both

Answer 5

A. The same premium; different premiums

Question 6

Stock options as compensation for CEOs are designed to solve

A. Asymmetric information
B. Moral hazard
C. Adverse selection
D. Both A and B
E. Both A and C

Answer 6

C. Adverse selection

Question 7

Principal-agent problems are an example of ____

A. Asymmetric information
B. Moral hazard
C. Adverse selection
D. Both A and B
E. Both A and C

Answer 7

C. Adverse selection

Question 8

A “death spiral” is always a potential problem in markets with a

A. Moral hazard problem
B. Adverse selection problem
C. A lot of really sick people
D. A lot of bad cars (lemons)E.All of the above

Answer 8

B. Adverse selection problem

Question 9

Debt holders prefer ____ risky projects than equity holders. This is a ______ problem.

A. Less; adverse selection
B. More; adverse selection
C. Less; moral hazard
D. More; moral hazard

Answer 9

B. More; adverse selection

Question 10

In general, adverse selection is an issue ____ a transaction and moral hazard is an issue ____ a transaction.

A. Before; before
B. After; after
C. Before; after
D. After; before

Answer 10

C. Before; after