EC330: Problem Set 4
Due in class: Thursday, April 13
Multiple choices
1. Which of the following is NOT a bank liability?
A) checkable deposits
B) CDs
C) mortgage loans
D) borrowings from the Federal Reserve
2. Federal funds are
A) the tax revenues of the Federal government.
B) loans by the Federal Reserve to banks.
C) loans by banks to the Federal Reserve.
D) short-term loans between banks.
3. Which of the following is a checkable deposit?
A) a NOW account
B) a money market deposit account
C) a certificate of deposit
D) a savings account
4. The difference between a savings deposit and a time deposit is
A) time deposits pay no interest.
B) savings deposits pay no interest.
C) time deposits have specified maturities.
D) savings deposits have specified maturities.
5. On a bank’s balance sheet, “borrowings” are
A) loans to households.
B) loans to businesses.
C) non-deposit liabilities.
D) U.S. Treasury securities.
6. Banks use repurchase agreements to
A) ensure that payments on consumer loans are made on time.
B) borrow funds from business firms or other banks.
1
C) guard against price fluctuations on long-term bonds.
D) ensure that they always have enough funds on hand to meet their federal tax liabilities.
7. If the value of bank’s loans declines, what is the corresponding reduction in a liability entry that
the bank makes?
A) Deposits are reduced by the amount of the decline in the value of the loan.
B) Borrowings are reduced by the amount of the decline in the value of the loan.
C) Net worth is reduced by the amount of the decline in the value of the loan.
D) Cash items in the process of collection are reduced by the amount of the decline in the value
of the loan.
8. 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 $300.
B) an increase in required reserves of $270.
C) an increase in required reserves of $3000.
D) an increase in required reserves of $30 and an increase in excess reserves of $270.
9. If a bank has a leverage ratio of 0.1 and a return on asset of 2%, what is its return on equity?
A) 0.2%
B) 2.1%
C) 5%
D) 20%
10. Which of the following statements about checking deposits is true?
A) It is a liability for both households and banks.
B) It is an asset for both households and banks.
C) It is an asset for households but a liability for a bank.
D) It is a liability for households but an asset for a bank.
11. Given that most banks have positive gap and negative durations, banks prefer
A) lower market interest rates.
B) higher market interest rates.
C) higher market fixed rates but lower market floating rates.
D) either higher or lower market interest rates since interest rates have little effect on bank profits.
12. Banks face liquidity risk because
A) they can have difficulty meeting their depositor’s demands to withdraw money.
B) they are unable to borrow from the Federal Reserve.
C) households and businesses may seek to borrow a large amount of funds in a short period of
time.
D) governments tend to run high budget deficits.
2
13. Which of the following is true about bank runs?
A) Bank runs would never happen if banks haven’t made any non-performing loans.
B) Bank runs happen because depositors have irrational (wrong) beliefs about banks’ solvency.
C) Bank runs are less likely happen with deposit insurance.
D) All of the above
14. The original intention of the Fed’s role as lender of last resort was to make loans to banks that
were
A) not illiquid nor insolvent.
B) illiquid, but not insolvent.
C) insolvent, but not illiquid.
D) both illiquid and insolvent.
Short-answer questions
1. The following entries (in millions of dollars) are from the balance sheet of the First National Bank.
U.S. Treasury bills $20
Checkable deposits 70
Mortgage-backed securities 30
Loans from other banks 5
Consumer loans 50
Repurchase agreements 5
Savings accounts 10
Reserve deposits with Federal Reserve 10
Residential mortgage loans 50
Time deposits 20
(a) Use the entries to construct a balance sheet with assets on the left side and liabilities and
bank capital on the right side.
(b) What is the leverage of First National Bank?
(c) If First National has a 2% return on assets (ROA), what is its return on equity (ROE)?
2. Suppose that National Bank of Guerneville (NBG) has $34 million in checkable deposits, Commonwealth
Bank has $47 million in checkable deposits, and the required reserve ratio for checkable
deposits is 10%. NBG has $4 million in reserves, and Commonwealth has $5 million in
reserves.
(a) How much in excess reserves does each bank have?
3
(b) Now suppose that a customer of NBG writes a check for $1 million to a real estate broker
who deposits the check at Common wealth. After the check clears, use T-accounts to show
the effect of this transaction on the balance sheet of each bank. How much does each bank
have in excess reserves?
3. Go to the Website of the Federal Reserve Bank of St. Louis (FRED) (https://fred.stlouisfed.
org/). Download and graph the data series for Nonperforming Total Loans (NPTLTL) from Jan
1988 to the most recent quarter available.
(a) Describe how nonperforming loans move just before, during and just after a recession. Is the
pattern the same across the three recessions in your data?
(b) Is there a long-term trend in nonperforming loans? What are the implications for bank
profitability?
4. Go to the Website of the Federal Reserve Bank of St. Louis (FRED) (https://fred.stlouisfed.
org/). Download and graph the data series for the interest rate on Baa-rated corporate bonds
(DBAA) from Jan 1986 to the most recent quarter available.
(a) Describe how the interest rate on these bonds typically moves just before, during, and just
after a recession.
(b) How does the pattern for the 2007-2009 recession compare to the pattern for other recessions?
(c) If you had to date the 2007-2009 financial crisis just on the basis of movements in the interest
rates on these bonds, in which month would you say the financial crisis began, and in which
month would you say the financial crisis ended?
