Week 3

Question 1

What are four main assets on the central banks balance sheet

Answer 1

1) Loans to other banks
2) Foreign Reserves
3) Government Securities
4) Gold reserves and other financial items such as property, equipment, etc

Question 2

Name the three main liabilities of a central bank balance sheet

Answer 2

1) Currency in circulation
2) Deposits made by other banks as this is part of the banks reserve
3) Government deposits

Question 3

How does the central bank affect reserves in the banking system and what is the effect on liquidity?

Use the equation

Answer 3

Equation: B = C + R
When the central bank buys securtities it increases the banks reserve leading to a growth in R and thus an increase in B (Monetary Base) vice versa
The CB can adjust the reserve requierement ratio, a higher ratio means less liquidity to lend and make money vice versa

Question 4

Explain what happens to the person, bank and central bank when a person deposits 100m ater selling bonds

Answer 4

The person loses the 100m as a bond and gains 100m in cash. He then deposits the cash into the bank.
The bank recieves 100m as a deposit which is a liability however this means they have 100m to lend and thus inject liquidity in the economy.
The bank also has the 100m bond which they give to the central bank.
The central bank gains an asset (government secuirty bond) but also have a liability as the bank ‘deposited’ the 100m in central bank which is a central bank liability.
Overall, reserves has increased as the bank desposited into the central and has money from the person to lend so B increases

Question 5

What is discount lending ?

Answer 5

Banks borrow from the central bank to meet their short term liquidity issues. The rate at which they borrow is called the discount rate.

Question 6

What factors affect the discount lending?

Answer 6

Monetary policiy, the tighter it is the more likely the rate will increase making it more expernsive for banks
Reserve requirements may affect the need to tap into the discount window

Question 7

Overnight interest rate, explain the purpose

Answer 7

Banks borrowing from other banks in order to meet their liquidity or reserve requirements - short term often less than 30 days

Question 8

What does a higher overnight interest rate mean about liquidity in the economy ? Vice versa

Answer 8

A higher overnight interest rate often means money is harder to come by, banks are less willing to give money away to other banks so they rise their rates, vice versa

Question 8

Can change in overnight affect the economy on a wider scale?

Answer 8

Yes, it is a benchmark for interest rates like mortgages, credit cards etc