CHAPTER 9 | Questions:

1. Why might a bank be willing to borrow funds from other banks at a higher rate than the rate at
which it can borrow from the Fed?

Business banks get from the Federal Reserve System (FRS) basically to meet hold necessities before the
finish of the work day when their money close by is low. Getting from the Fed permits banks to get
themselves back over the base save edge. A bank gets cash from the public authority's national bank
using what is known as the markdown window.

Getting through the rebate window is advantageous in light of the fact that it's accessible of the time.

Banks can get from the Fed to meet save prerequisites. The rate charged to banks is the markdown rate,
which is typically higher than the rate that banks charge one another. Banks can borrow money from
one another to achieve their holding requirements, which are subsidized by the government.

2. Rank the following bank assets from most to least liquid: a. Commercial loans b. Securities c.
Reserves d. Physical capital

The rank from most to least liquid is (c), (b), (a), (d)
ANSWERS: evens first, then the odds
5. If no decent lending opportunity arises in the economy, and the central bank pays an interest rate on
reserves that is similar to other low-risk investments, do you think banks will be willing to hold large
amounts of excess reserves?

if no decent lending opportunity arises in the economy, and the central bank pays an interest rate on
reserves that is similar to other low-risk investments.
Bank tries to find borrowers, who fulfill the purpose of handsome return and safety of principal amount
lent. Thus, bank will look for the borrowers, who can pay high- interest rates and are prompt in
repayments. Banks keep security and return as prime objective prior to lend.

On the other hand, bank manages liquidity of its assets in such a manner that it can meet the demand of
deposit outflow without violating the reserve requirement.

To meet the demand of deposit outflows, banks keep some portion of their portfolio in the liquid asset,
although, in this process they earn lower interest rates.

The bank while diversifying their portfolio, assess the demand of liabilities to be paid and they keep their
excess reserves. Banks also keep US government securities to minimize this loss of interest.

Banks also build up strategies to earn more interest on their investments to meet the costly payment on
the liabilities.

Hence, bank manages between the risk associated with the investment and return on the investment.

Therefore, in absence of decent lending opportunities, the bank will prefer to keep excess reserves in
high proportion.

Banks will be willing to hold large amounts of excess reserves in the absence of decent lending
opportunities.

7. If a bank finds that its ROE is too low because it has too much bank capital, what can it do to raise its
ROE?

The bank should confirm that its ROE is relevant so that the bank can attract equity holders and improve
the market value of shares. Bank can use various strategies to make sure that its capital structure is
satisfactory and the equity holders are not influenced due to too much capital.

9. Why do equity holders care more about ROE than about ROA?

Because ROE, the return on equity, tells stock holders how much they are earning on
their equity investment, while ROA, the return on assets, only provides an indication how well
the bank's assets are being managed.

11. What are the benefits and costs for a bank when it decides to increase the amount of its bank
capital?

Bank capital is the contrast between a bank's resources and its liabilities, and it addresses the total
assets of the bank or its value worth to financial backers. The bank should keep a sufficient level of
capital to avoid the cost and add benefits to shareholders. A suitable level of capital satisfies to prevent
bank defeat.

13. A bank almost always insists that the firms it lends to keep compensating balances at the bank.
Why?

Compensating balances are utilized as collateral by banks or financial institutions which allows them to
minimize default risk. For example, if a borrower defaults then net losses incurred by financial
institutions will be compensated with these balances. Another thing is, if compensating balances are
held with the bank then it will allow decreasing the risk-taking preferences of the borrower which helps
to decrease moral hazard issues. Available compensating balances will be utilized by banks as another
source of credit line so that profitability would be enhanced.

15. “Because diversification is a desirable strategy for avoiding risk, it never makes sense for a bank to
specialize in making specific types of loans.” Is this statement true, false, or uncertain? Explain your
answer

The given statement is misleading because when a bank specializes in making particular sorts of loans, it
can show economies of scale and perform all the more proficiently. Specialization permits the bank to
collect data regarding regional firms and find their creditworthiness more comfortable. This decreases
the negative choice situation in which banks do not understand which firms have more adequate credit
than the rest and decreases the chance of default.

17. “Bank managers should always seek the highest return possible on their assets.” Is this statement
true, false, or uncertain? Explain your answer.

False. Assuming a resource has a great deal of risks, a bank administrator might not have any desire to
hold it regardless of whether it has a better yield than different resources. Hence a bank director needs
to think about risk as well as the normal return while choosing to hold a resource.
CHAPTER 11
NOW ODDS
1. . Do you think that before the National Bank Act of 1863 the prevailing conditions in the banking
industry fostered or hindered trade across states in the United States?

hey hindered trade across states because there was no national currency and the banknotes issued by
the state-chartered banks had become worthless.

3. In light of the recent financial crisis of 2007–2009, do you think that the firewall created by the Glass-
Steagall Act of 1933 between commercial banking and the securities industry proved to be a good thing
or not?

The banks were not denied from working as both commercial and investment banks. The banks turned
out to be too enormous to even think about coming up short. Yet, some contend that the crisis would
even occur without the nullification of the Glass Steagall Advertisement of 1933

5. How does the emergence of interest-rate risk help explain financial innovation?

It increases the demand for financial products and services that could reduce that risk. An increase in
interest-rate risk increases the demand for financial innovation.

7. The innovation of computers is a major factor behind the decline of the baking industry- the
statement is true for the following reasons:

Firstly, improvement in computer technology leads to securitization whereby illiquid financial assets
such as bank loans and mortgages are transformed into marketable securities.

Secondly, Computers made it possible for other financial institutions to create loans because they can
now evaluate credit risks with statistical methods. When default risk can be easily evaluated with
computers, banks no longer have an advantage in making loans.

Thirdly, computers have lowered transaction costs made it possible to bundle these loans and sell them
as securities.

Thus without their former advantages, banks have lost loan business to other financial institutions even
though banks themselves are involved in the process of securitization

The innovation of computers is a major factor behind the decline of the baking industry- the statement
is true.

9. How do sweep accounts and money market mutual funds allow banks to avoid reserve requirements?

These "cleared out" reserves are not named checkable stores so they are not exposed to hold
necessities. Henceforth, these two monetary developments permitted banks to sidestep hold
necessities.

Currency market shared reserves work as financial records stores that procure revenue yet since they
are not legitimately stored, they are not exposed to hold prerequisites or preclusions on premium
installments. Clear records permit organizations to "clear out" any adjustments over a specific sum in
the organization's financial records and put that cash in for the time being protections that pay revenue.
These "cleared out" reserves are not named checkable stores so they are not exposed to hold
necessities. Henceforth, these two monetary developments permitted banks to sidestep hold
necessities.
11. Why is loophole mining so prevalent in the banking industry in the United States?

Loophole mining is so prevalent in the United States banking industry because banks occupied loophole
mining to keep away from regulatory constraints that control their ability to receive profit. It escalated
the cost of funds from the higher interest rate.

13. Why have banks been losing income advantages on their assets in recent years?

Securitization has enabled other financial institutions to originate loans, taking away some of the banks'
loan business.

The growth of the commercial paper market and the development of the junk bond market have given
corporations alternatives to borrowing funds from banks, thus eroding the competitive advantage of
banks on the lending side.

15. Why are the number of traditional banking systems in industrialized and developed countries
declining?

The traditional banking system emphasises the physical presence of banks with offices and offering
consumers with face-to-face services. In this case, the consumer must travel to the bank for each service
he desires, and the bank must give him full attention.

The system has been declining within the industrialised and developed countries due to the subsequent
reasons:- the massive prices of services due to the enlarged body prices and the massive operative
expenses of the standard system.- the shoppers need to visit the building for every service needed
during this system that consumes heaps of your time for the shoppers so the employment of this
technique has been incessantly declining and therefore the web banking is additional renowned within
the fashionable and developed economies.- he methods of the standard system takes heaps of your
time in each service they supply that makes the processes slow.- there's no facility of on-line banking or
enough ATM networks are not accessible during this ancient system that makes the developed countries
avoid such systems and adopt one thing fashionable with a technological base in its operating.
CHAPTER 14

ANSWERS
6. Why have some countries rejected the single currency despite being full members of the European
Union?

Several challenges including resolving monetary policy, dealing with country-specific matters, managing
national debt, modulating inflation, and deciding when to devalue a currency are associated with using
Euro. Thisis whysome countries did not adopt Euro.

8. What are the main difficulties encountered by the newly established central banks in transition
economies?

The newly established central banks in post-communist countries were provided with a considerable
degree of legal independence. The reason for that was the empirical success of independent banks in
developed countries in maintaining price stability. Institutional devices, such as an independent central
bank, can impose necessary financial discipline on policymakers and restrict them from short-sighted
monetary expansion. Of course, legal independence does not necessarily result in actual independence
i.e., effective protection from political pressure.

High and persistent inflation is one of the main problems faced by the transforming economies.
Monetary expansion driven by political factors seems to be the main cause of current inflationary
episodes.
12. People in general welcome actions that maintain effective communication and promote
transparency, in particular when these involve public or quasi-public institutions. Can you think of a
reason why a more transparent communication strategy might be detrimental to a central bank’s
objectives?

Transparency is a desired feature of a central bank's policymaking. It is often welcomed by the general
public. However, too much transparency can also be harmful to a central bank. If a central bank
announces its policy, it can be forced to commit to it. Not following a policy after making an
announcement can be harmful, as it may cause the general public to lose trust in the central bank.
Trustworthiness is a significant element in monetary policy and not following policy would risk it.

14. William does not feel comfortable with the current level of the European Central Bank’s
independence. Put yourself in William’s shoes and state an argument against the current level of the
European Central Bank’s independence.

Freedom is significant because analysts have observed that the more autonomous a national bank is, the
lower the inflation it permits without harming development and business objectives.

William could feel that individuals responsible for the plan and direction of the money-related approach
were not chosen by the overall population, as are not adequately respond to general society. Albeit the
Executive and Legislative parts of the U.S. government take an interest in the arrangement cycle of
individuals from the Board of Governors, leaders of the Federal Reserve Banks are chosen by part banks
of each area.

16. “The independence of the central bank has meant that it takes the long view and not the short
view.” Is this statement true, false, or uncertain? Explain your answer.

True, the central bank is designed to be a separate and autonomous agency excluded from the political
cycle. This allows them to take the long view, a stable and functioning economy decades down the road.
Rather than be pressured by the short-view market panic over inflation or demand fluctuations.

For example, if there is a market crisis and hundreds of thousands are suffering, the independent central
bank needs to analyze if intervening will result in a worse outcome later, if yes, they will do nothing to
help. If they can intervene without hurting the long run more, then they will. (in theory)
CHAPTER 15
ANSWERS
Now EVENS:

2. The First National Bank receives an extra $100 of reserves but decides not to lend out any of these
reserves. How much deposit creation takes place for the entire banking system?

The banking industry is that the group during which there are banks and financial institutions which
offer the banking and financial services. The institutions during this system perform the works like
providing loans and taking deposits.

The deposit creation implies that the banks will collect amounts from the method of cash supply which
is then employed in the method of lending. The reserves are those accounts within which amount is
kept secured for further future use. If the bank receives some extra amount in reserves but doesn't lend
that quantity to anyone, then no loan is formed for anybody. If no loan is formed, then deposits are not
created.

4. If a bank depositor withdraws $1,000 of currency from an account, what happens to reserves,
checkable deposits, and the monetary base?

The monetary base (or M0) is the aggregate sum of cash that is either widely accepted in the possession
of the general population or as business bank stores held in the national bank's stores.

Total reserves and checking deposits will both reduce by $1,000 while money outside of banks will
increment by $1,000. Since money outside of banks ascends by the very sum that concluded reserves
decline, the financial base will be unaltered.

Total reserves and checking deposits will both decrease by . The monetary base will be unchanged.

6. If you decide to hold $100 less cash than usual and therefore deposit $100 more cash in the bank,
what effect will this have on checkable deposits in the banking system if the rest of the public keeps its
holdings of currency constant?

A deposit is depicted as an activity of people who place their money in a monetary organization or bank.
People ordinarily place their cash at the bank for security and supervision.

The deposit of $100 in the bank expands its reserves by $100. This begins the course of numerous
deposit extensions, prompting an expansion in the money supply.

As per the circumstance illustrated above, there will be an expansion available for later. Through the
course of numerous deposit creations, we will see an expansion in the money supply.
8. “The Fed can perfectly control the amount of the monetary base, but has less control over the
composition of the monetary base.” Is this statement true, false, or uncertain? Explain.

Fed cannot control the amount of discount lending to financial institutions. Since the Fed can't handle
how many markdowns loaning to monetary foundations, it doesn't have perfect command over the
number of reserves, and hereafter doesn't have great command over the monetary base. False.

10. Describe how each of the following can affect the money supply: (a) the central bank; (b) banks; and
(c) depositors.

The effect on the money supply is as follows:

(a) The financial institution: The central bank can affect the provision of cash through the open market
operations which change the nonborrowed monetary base. The bank affects the monetary base and
hence the provision of cash by the problem of loans to the financial institutions which increases the
borrowed reserves.

(b) Banks: The banks can affect the money supply by the way of holding the reserves which are in excess.
When there are fewer reserves within the bank the amount of loans of the bank's increases, which
shows a rise within the monetary resource.

(c) Depositors: The depositors can influence the money supply through the holdings of currency versus
deposits. a better ratio of currency deposit ends up in a lower money multiplier and hence a lower
supply for the given monetary base.

12. What effect might a financial panic have on the money multiplier and the money supply? Why?

The money multiplier indicates how much the money supply changes for a given change in the
monetary base. It is calculated as:

Money supply can be reduced significantly during a financial panic.

Bank account holders withdraw currency from their bank accounts in order to transfer their checkable
deposits into currency.

Money supply theory says that when c increases significantly, there will be a fall in the overall level of
deposits, resulting in a contraction of the money supply.

Therefore, the money supply declines as a result of a smaller money multiplier.

When e rises, deposits are supported with fewer reserves, causing money to be less plentiful.
14. In October 2008, the Federal Reserve began paying interest on the amount of excess reserves held
by banks. How, if at all, might this affect the multiplier process and the money supply?

The Federal Reserve will be able to increase its balance sheet as necessary to provide liquidity to
facilitate financial stability while implementing monetary policy that is consistent with the System's
macroeconomic objectives of maximizing employment and maintaining price stability.

The Federal Reserve's decision to pay interest on excess reserves gives banks an incentive to hold onto
more excess reserves rather than make loans with them.

This would slow down the multiplier process and decrease the money supply because a reduction in
loans stops the multiple deposit creation.

Money supply will increase a bit due to the interest income released by the federal reserve in the
banking system.
CHAPTER 16
ANSWERS
Now EVENS:

2. During the holiday season, when the public’s holdings of currency increase, what defensive open
market operations typically occur? Why?

During the holiday season, the public's holdings of currency increase because, the fed will purchase
securities to inject funds into the financial system and make up for the shortage of funds in circulation.

4. If float decreases to below its normal level, why might the manager of domestic operations consider it
more desirable to use repurchase agreements to affect the monetary base, rather than an outright
purchase of bonds?

When float decreases below its normal level, then a repurchase agreement which is a temporary
defensive open market operation, is more suited to affect the monetary base than an outright purchase
as changes in float are corrected using defensive open market operations.

6. “The federal funds rate can never be above the discount rate.” Is this statement true, false, or
uncertain? Explain your answer.

The market for holds model intends that on the off chance that the public asset rate gets the discount
rate, it won't ever arrive at the discount rate. This is on the grounds that the federal asset rate surpasses
the discount rate then the banks would straight cash from the Federal Reserve rather than acquiring
from the federal asset's business sectors. This will in favor additional control the expansion of the
provided fund rate above the discount rate. In the empirical world, the federal fund rate can surpass the
discount rate. This can be due to the stigma which is associated with the banks borrowing directly from
the Federal Reserve. There is a stigma stating that the banks might prefer to pay a higher market rate
than considering the option of borrowing directly from Federal Reserved.

Thus, the given statement that 'the federal fund rate can never be above the discount rate' represents
an uncertain situation.

8. Why is paying interest on reserves an important tool for the Federal Reserve in managing crises?

Assume the Fed chooses to expand the premium paid on holds held by banks. Banks would be
motivated to hold onto more reserves in order to collect the higher interest payments.

There would be less currency in circulation as a result, which slows down the economy. The Fed can do
the opposite and stimulate the economy by reducing the interest paid on reserves. Banks would not be
as inclined to hold onto reserves and would rather make loans with them.

This tool is helpful for managing crises because the Fed can use it to push the economy in the opposite
direction of the crisis in order to restore stability.

10. Open market operations are typically repurchase agreements. What does this tell you about the
likely volume of defensive open market operations relative to the volume of dynamic open market
operations?

The volume is of defensive open market operations relative to dynamic open market operations: A
repurchase agreement is a temporary defensive open market operation that is used to counter any
undesirable change in the level of the monetary base arising out of changes in float, Treasury's deposits
at the Fed, etc.

As most open market operations are repurchase agreements, which is a quick defensive open market
action, the importance of defensive open market operations is more significant than dynamic open
market operations.

14. Suppose your country is concerned about inflation and has set a target rate for the year. The
government believes that targeting inflation is the most important role of monetary politics. The central
bank is responsible for targeting inflation. What is the main tool that central banks can use for inflation
targeting? Will this tool be enough

No. The Fed ought not raise the save prerequisites to 100%. With an ascent available for later
prerequisites comes an ascent in the government subsidizes rate and a drop in the cash supply.
Assuming that the expected stores were held at 100%, banks wouldn't be permitted to give advances or
gain revenue. This would totally close down the flow of money inside the economy and hurt monetary
development because of a critical absence of utilization. To place into point of view, the most
noteworthy the Fed has at any point held the Required Reserves proportion was at 18%

16. What are the advantages and disadvantages of quantitative easing as an alternative to conventional
monetary policy when short-term interest rates are at the zero lower bound?

Quantitative easing is an unconventional monetary policy that a central bank will turn to in the face of
widespread economic hardship. Some economists consider it a quick way of stimulating a country’s
economy in times of dire economic crisis. Here are some of the advantages of QE.

1. Low-risk lending for banks. Quantitative easing will typically only be introduced to an
economic landscape where interest rates have dropped to zero percent. Adding money to a
bank’s reserves in the face of these lower interest rates means that economic risk for banks
lending money to civilians can remain low.

2. Encourages people to spend. The purpose of QE is to level out markets to make spending and
investing money more appealing and accessible to consumers. Lower interest rates can increase
the likelihood that business and civilian borrowers will take out loans to make purchases,
thereby boosting economic activity.

3. Boosts the prices of assets. When the government participates in bond-buying during a QE
measure, they replace the bonds with money that the previous bond-holder can reinvest in
other assets in different financial markets, increasing their value.

3 Disadvantages of Quantitative Easing

Quantitative easing is a large-scale emergency measure that focuses on short-term economic

growth, which can occur at the expense of a financial system’s long-term stability. Some of the
potential drawbacks of QE can include the following.

1. Can cause inflation. Adding currency into circulation can be tantamount to creating money
out of thin air, which can contribute to inflation and lower bond yields. Inflation is the steady
 increase in the price of goods and services over time. It devalues units of currency (like the U.S.
Dollar), resulting in consequences like a higher cost of living.

2. Can cause stagflation. Stagflation refers to a rise in the cost of goods and living without
yielding sufficient economic growth. When the central bank purchases financial assets, they are
doing so to make it easier for others to make investments. However, during a great recession or
global financial crisis, people are less likely to spend money, so there is no guarantee that the
method will work.

3. Impacts the value of a nation’s currency. Unless other countries are also taking quantitative
easing measures, QE can drastically reduce the value of a country’s national currency. This is
indicative of a decline in the international purchasing power—or the number of goods that one
unit of currency can buy—of a country’s national currency.

20. How do the monetary policy tools of the European System of Central Banks compare to the
monetary policy tools of the Fed? Does the ECB have a discount lending facility? Does the ECB pay banks
an interest rate on their deposits?

The functional framework of the Euro system consists of the accompanying arrangement of instruments:
-

Open market operations:- Open market operations assume a significant part in directing interest rates,
dealing with the liquidity circumstance in the market, and flagging the monetary policy position.

Standing facilities:- Standing facilities expect to give and retain for the time being liquidity, signal the
overall monetary policy position, and bound for the time being market interest rate. Two standing
offices, which are directed in a decentralized example by the NCBs, are feasible to qualified
counterparties on their motivation.

Minimum reserve requirements for credit establishments The minimum reserve system plans to seek
after the points of stabilizing money market interest rates and making (or amplifying) an underlying
liquidity shortage.

The ECB has a standard lending facility. The Euro system offers credit institutions two standing facilities:

Marginal lending facility to obtain for the time being liquidity from the central bank, against the
presentation of adequate qualified assets;

Deposit facility to make for the time being deposits with the central bank.
CHAPTER 17
ANSWERS
NOW EVENS:

2. What incentives arise for a central bank to fall into the time-inconsistency trap of pursuing overly
expansionary monetary policy?

Central bankers preferably accept that when they seek after an excessively expansionary policy it will
prompt an expansion in employment or lift the result. Be that as it may, over the long haul, this outcome
is just in expanding expansion with no genuine additions as far as result or employment. Additionally,
the government officials can impact the central bank to seek after an excessively expansionary policy.

The politicians can impact the central bank to seek after an excessively expansionary policy.

4. “Since financial crises can impart severe damage to the economy, a central bank’s primary goal should
be to ensure stability in financial markets.” Is this statement true, false, or uncertain? Explain.

Most business analysts likely wouldn't question that attempting to keep up with security in financial
business sectors is critical to the economy. In any case, having a steady and focused on center around
financial market solidness to forestall crises by and large is likely superfluous since financial crises are for
the most part lovely uncommon. Furthermore, continually zeroing in on keeping up with dependability
in financial business sectors could come to the detriment of overlooking more significant elements that
can be undeniably more expensive to the economy on an everyday premise, like settling result,
unemployment, or other related transient developments in the business cycle. So, the statement is
Uncertain.

6. Why is a public announcement of numerical inflation rate objectives important to the success of an
inflationtargeting central bank?

The public announcement of an explicit numerical inflation objective increases the accountability of a
central bank and therefore promotes the monetary authority's commitment to delivering low and stable
inflation.

8. What methods have inflation-targeting central banks used to increase communication with the public
and to increase the transparency of monetary policymaking?

nflation targeting involves the central bank determining the rate of inflation and then communicating
that rate to the public. Inflation-targeting monetary policy emphasizes transparency in policy making
and regular communication with the public.

Distribution of brochures, the publication inflation reports, public speeches, and continuous
communication with the elected government are some of the methods used by the inflation targeting
central banks for increasing transparency.

10. “Because inflation targeting focuses on achieving the inflation target, it will lead to excessive output
fluctuations.” Is this statement true, false, or uncertain? Explain

This assertion is valid because inflation focusing on causes genuine results or swapping scale instability.
So obtaining an inflation target; will direct to unreasonable results inflation. This assertion is valid
because inflation focusing on causes genuine results or swapping scale instability. So obtaining an
inflation target; will direct to unreasonable results inflation.
12. “The zero lower bound on short-term interest rates is not a problem, since the central bank can just
use quantitative easing to lower intermediate and longer-term interest rates instead.” Is this statement
true, false, or uncertain? Explain

Quantitative easing is a policy operated by the central government to a regular local economy. It is one
of the strategies operated once the zero lower bound is achieved on short-term interest rates. The
central bank cannot reduce the interests rates to stabilize the economy as the interest rate cannot go
descending than zero. This might conduct to the withdrawal of money from the centralized bank by
account holders. Lending money from Government financial institutions at lower rates will enable the
centralised bank to sustain and achieve lower interest rates. This statement is false.

14. Why might macroprudential regulation be more effective in managing asset-price bubbles than
monetary policy?

As a complement to macroprudential tools, macroprudential regulation should be concerned with

providing the stability of the financial system as a whole and the relief of risks to the real economy.

Macroprudential regulation directs to decisions that make the motivator framework for individual firms
sound and reliable, so externalities - impacts of one's choices on others - are incorporated.

Macroprudential regulation incorporates a policy to impact just the thing is happening in credit
advertises and is consequently the right apparatus for getting control over credit-driven asset-price
bubbles

16. According to the Greenspan doctrine, under what conditions might a central bank respond to a
perceived stock market bubble?

According to the Greenspan doctrine, as the market price of goods rises, rather than making price
adjustments, the central bank should raise interest rates in order to maintain economic stability and
control further price rises.