Midterm 2 BLUE Name MULTIPLE CHOICE Choose the one alternative that best completes the statement or answers the question 1 Lenders prefer to lend to firms with high net worth because 1 A the government requires most bank loans to be made to such firms B the owners of such firms have more to lose if the firm defaults on a loan C such firms are usually willing to pay higher interest rates D such firms usually are unable to raise funds directly through financial markets 2 If a one year bond currently yields 6 and is expected to yield 8 next year the liquidity premium theory predicts that the yield today on a two year bond should be A more than 7 B less than 7 but more than C 8 D 7 2 3 The lemons problem in the used car market arises from A the reluctance of many car dealers to handle used cars B the tendency of buyers of used cars to pay for them with bad checks C the difficulty U S producers have in making reliable cars D the difficulty buyers have in distinguishing good cars from lemons 3 4 Which of the following is NOT an example of off balance sheet lending A a loan commitment B a loan sale C a standby letter of credit D a swap 4 5 If after a deposit outflow a bank needs an additional 3 million to meet its reserve requirements the bank can A increase loans by 3 million B reduce deposits by 3 million C sell 3 million of securities D repay its discount loans from the Fed 5 6 If the expected path of interest rates on one year bonds over the next five years is 2 4 3 2 and 1 the expectations theory predicts that the bond with the lowest interest rate today is the one with a maturity of A three years B one year C five years D two years 6 7 The term structure of interest rates A usually results in a downward sloping yield curve B reflects differing tax treatment received by different instruments C represents the relationship among the interest rates on bonds that are otherwise similar but that have different maturities D always results in an upward sloping yield curve 7 8 The McFadden Act of 1927 A prohibited national banks from operating branches outside their home states B established the Federal Reserve System C put a tax on the issuance of bank notes by state banks D separated commercial banking from investment banking 8 9 Smaller firms tend to rely on financial intermediaries instead of financial markets for external financing due to A moral hazard B transactions costs C adverse selection D all of the above 9 10 Why is adverse selection more likely in financial markets when interest rates rise A The remaining borrowers are more likely to be risky B Banks eliminate risky borrowers by raising interest rates C Higher interest rates are likely to hurt the economy D If firms have to pay higher interest rates they may choose to use the funds differently than they first intended 10 11 Which of the following is NOT a reason that firms in the shadow banking system were more vulnerable than commercial banks during the financial crisis of 2007 2009 A They were more heavily regulated than commercial banks making them less able to adjust to changing market conditions B They made investments that would lose value if housing prices decline C They could invest in riskier assets D Investors had no insurance against loss of principal 11 12 If you deposit 300 in your bank and the required reserve ratio is 10 your bank will have A an increase in required reserves of 270 B an increase in required reserves of 300 C an increase in required reserves of 3000 D an increase in required reserves of 30 and an increase in excess reserves of 270 12 13 The shadow banking system refers to A nonbank financial institutions such as investment banks and hedge funds B community banks C pawn shops and institutions that offer payday loans D commercial banks 13 14 According to the liquidity premium theory the yield curve normally has a positive slope because A short term interest rates are expected to rise B risk premiums rise over time C term premiums rise as the time to maturity increases D long term bonds are more liquid than short term bonds 14 15 Investment banks are vulnerable because A they tend to primarily hold short term assets B they tend to be underleveraged C the maturity of their liabilities is less than the maturity of their assets D the maturity of their assets is less than the maturity of their liabilities 15 16 Underwriting involves A selling stock more cheaply than conventional stockbrokers B issuing stock and using the proceeds to buy bonds C guaranteeing a price for new capital to the issuing firm D insuring the life or health of individuals 16 17 With debt financing A moral hazard problems are reduced but not eliminated B firms reduce the risk that they will become bankrupt during a recession C adverse selection problems are eliminated D moral hazard problems are eliminated 17 18 According to the liquidity premium theory a steep upward sloping yield curve may be an indicator of A expectations of a significant increase in inflation B an economic slowdown C lower future short term interest rates D an upcoming recession 18 19 Information costs A include the costs borrowers incur to discover the best investments to make with the money they have borrowed B are the costs of buying and selling financial claims C include the costs that savers incur to determine the credit worthiness of borrowers D are zero in financial markets but high for transactions carried out through financial intermediaries 19 20 Which of the following is a bank liability A consumer loans C nontransaction deposits 20 B reserves D securities 21 The Glass Steagall Act was designed to A impose high capital ratios on investment banks B promote the interests of community banks C promote mergers in the banking industry D legally separate investment banking from commercial banking 21 22 Banks deal with problems of adverse selection by A charging high interest rates B making only long term loans C gathering information about the default risk of borrowers D making only short term loans 22 23 Economies of scale are A decreases in transactions costs that occur as information costs increase B decreases in information costs that occur as transactions costs increase C charges to savers and borrowers imposed by banks in exchange for reducing transactions costs D the reduction in costs per unit that accompanies an increase in volume 23 24 The ratio of a bank s after tax profit to bank capital is known as A return on capital B spread C net interest