Money Banking Midterm 2

What is the fundamental bank balance sheet equation?

Assets = Liabilities + Equity (Net Worth)

What are the main types of bank liabilities?

Checkable deposits, savings and time deposits, borrowings, equity.

What are the main bank assets?

Reserves, loans, securities, and other assets.

What are the four pillars of bank management?

Liquidity, Asset, Liability, and Capital Adequacy Management.

What is asset transformation?

Banks fund assets (loans/securities) by issuing liabilities (deposits, CDs) with different risk and liquidity.

What are four ways a bank can handle a reserve shortfall?

Borrow from other banks, sell securities, borrow from the Fed, or reduce loans.

Why is bank capital important?

Prevents failure, affects owner returns, and satisfies regulation.

What is the formula for ROA?

Net Profit / Total Assets

What is the formula for ROE?

Net Profit / Equity Capital

What connects ROA and ROE?

ROE = ROA × (Assets / Equity) — the Equity Multiplier.

What happens to ROE as bank leverage rises?

ROE increases, but so does insolvency risk.

Why do governments regulate banks?

To prevent bank panics, protect depositors, and maintain financial stability.

What is the FDIC’s role?

Insures deposits (up to $250k), handles bank failures via payoff or purchase & assumption methods.

What is moral hazard in banking?

When banks take more risks knowing they’ll be bailed out.

What is adverse selection in banking?

Risk

What is “Too Big To Fail”?

Regulators protect large institutions to prevent systemic collapse, increasing moral hazard.

What are common types of bank regulation?

Restrictions on asset holdings, capital requirements, prompt corrective action, disclosure, consumer protection.

What does CAMELS stand for?

Capital, Asset quality, Management, Earnings, Liquidity, Sensitivity to market risk.

What was the Glass

Steagall Act (1933)?

What was repealed by the Gramm–Leach–Bliley Act (1999)?

The separation between commercial and investment banking from Glass

What did the Dodd

Frank Act (2010) do?

What’s the difference between microprudential and macroprudential supervision?

Microprudential = individual bank safety; Macroprudential = overall system stability (countercyclical capital).

What is securitization?

Turning illiquid loans into tradable securities (e.g., MBSs, CDOs).

What caused the decline of traditional banking?

Interest rate caps, inflation, technology, and competition from money markets and direct finance.

What is the shadow banking system?

Non

What are the pros of bank consolidation?

Efficiency, diversification, and competitiveness.

What are the cons of bank consolidation?

Loss of community banks, small

What defines a financial crisis?

A sharp disruption in information flows → increased financial frictions → reduced lending and economic activity.

What are the three stages of a financial crisis (advanced economies)?

1. Initiation (credit/asset boom

What is debt deflation?

Falling prices increase real debt burden, reducing borrower net worth and deepening recessions.

What caused the Great Depression’s financial collapse?

Lax lending, stock speculation, bank panics, stock crashes, and debt deflation.

What were the main causes of the 2007–2009 financial crisis?

Subprime mortgages, low interest rates, securitization (MBS/CDOs), housing bubble, and agency problems.

What was the “originate

to

What was the result of the housing price crash?

Defaults ↑ → MBS/CDO values ↓ → bank balance sheets deteriorated → shadow bank run.

What was TARP (2008)?

$700B government program to buy toxic assets and recapitalize banks.

What’s the difference between the Great Depression and Great Recession?

Depression: deeper, longer, no safety nets; Recession: mitigated by Fed/Treasury intervention.

What’s a macroprudential capital buffer?

Extra capital required in booms to limit credit bubbles, reduced in busts to support lending.

What’s a currency crisis?

A rapid, sharp drop in a nation’s currency value, often caused by speculative attack.

What’s currency mismatch?

Debt in foreign currency while income/assets are in local currency; depreciation raises real debt.

What are the three stages of emerging market financial crises?

1. Initial phase (credit boom/fiscal imbalance) 2. Currency crisis 3. Full

Describe South Korea’s 1997–98 crisis briefly.

Over

Describe Argentina’s 2001–02 crisis briefly.

Large fiscal deficit, forced bank purchases of debt, 1:1 peso peg collapse → currency crash → default.

What is a speculative attack?

Massive selling of currency based on expected devaluation → self

How can EMEs prevent financial crises?

Better supervision, disclosure, limit FX debt, flexible exchange rates, gradual liberalization.

What is financial liberalization sequencing?

Strengthen institutions before opening capital markets.

What is financial friction?

Anything (like asymmetric info) that blocks capital from flowing to its most efficient use.