Question 1

The First Bank of Podunk has recently suffered some extraordinary losses on its loan portfolio due to the closing of the largest employer in town.As a result, the bank's management decides to raise the interest rate to new loan applicants.This move is likely to:

Accepted Answer

A) Increase the profitability of the bank 
B) Cause even greater losses 
C) Significantly increase both loan applicants and profits 
D) Treat the problem of adverse selection that contributed to the losses the bank is experiencing

Question 2

Which of the following statements is true?

Accepted Answer

A) Adverse selection is a problem of monopoly and moral hazard is a problem of information asymmetry 
B) Adverse selection and moral hazard are problems stemming from asymmetric information 
C) Adverse selection is a problem that occurs after a transaction 
D) Moral hazard is a problem that occurs before a transaction

Question 3

Respond to the following: "If it takes a significant period of time to uncover accounting manipulations by individuals in a major corporation, honesty may be the best policy but dishonesty can be a lot more profitable!"

Accepted Answer

The answer of Respond to the following: "If it takes...

Question 4

The reduction in transaction costs provided by financial intermediaries benefit:

Accepted Answer

A) Small borrowers and small savers 
B) Large borrowers but not small savers 
C) Society in the net, but small savers bear much of the cost 
D) Small borrowers but not small savers

Question 5

Mom's Bakery goes out of business due to decreasing sales resulting from the dramatic increase in people on low carbohydrate diets.The decrease in business also results in Mom's defaulting on the loan they have with the bank.This is an example of:

Accepted Answer

A) Lack of perfect information in financial markets 
B) Asymmetric information in financial markets 
C) Moral hazard in financial markets 
D) Symmetric information in financial markets

Question 6

The price for private information is likely higher than it should be and the number of subscribers is lower than users due to the problem of:

Accepted Answer

A) Adverse selection 
B) Free-riders 
C) The government regulations regarding information 
D) Moral hazard

Question 7

Which of the following is not true of adverse selection?

Accepted Answer

A) It exists because information is perfect 
B) It describes the problem a lender faces in identifying loan applicants as good or bad risk borrowers 
C) It arises because borrowers have more information than lenders regarding their creditworthiness 
D) It arises if lenders try to charge an average price to all applicants

Question 8

Explain how mutual funds offer small investors a low-cost way to achieve diversification.

Accepted Answer

The answer of Explain how mutual funds offer small investors...

Question 9

What is the difference between economies of scale and economies of scope? Provide an example of each that pertains to financial institutions.

Accepted Answer

The answer of What is the difference between economies of...

Question 10

Deflation compounds information problems because it:

Accepted Answer

A) Increases a company's net worth 
B) Tends to understate a company's assets and overstate their liabilities 
C) Reduces the dollar value of assets while the dollar value of liabilities stays constant 
D) Always harms lenders

Question 11

Explain how the threat of a leveraged buyout or a takeover can actually treat the problem of moral hazard.

Accepted Answer

The answer of Explain how the threat of a leveraged...

Question 12

Financial intermediation exists, in part, because:

Accepted Answer

A) Financial markets work so well 
B) Direct finance through stocks and bonds is the dominant form of financing 
C) Transaction costs of financial intermediation is always higher than direct finance 
D) The transaction costs associated with direct finance can at times be prohibitive

Question 13

It is not uncommon to read about highly successful mutual fund managers that spend considerable amounts of time visiting the companies that they have placed their clients' funds with.What might be the motive(s) behind these visits?

Accepted Answer

The answer of It is not uncommon to read about...

Question 14

Which of the following could be the lemons problem, applied to financial markets? Explain

Accepted Answer

A) Lenders seeing a disproportionate share of high quality loan applicants 
B) An average interest rate that is too high for the actual risk obtained 
C) Profits for many lenders increasing significantly 
D) High quality potential borrowers relying more on internally generated funds to finance investment

Question 15

Financial intermediaries, through their ability to lower transaction costs:

Accepted Answer

A) Allow people to specialize in what they do at the lowest opportunity cost 
B) Decrease the efficiency of an economy 
C) Allow for people to be more self-sufficient 
D) Make collecting and processing information easier

Question 16

Large companies seeking to raise funds often will use a well-known investment bank because:

Accepted Answer

A) The investment bank's reputation identifies the company as being credit worthy 
B) They are required to by government regulation 
C) The investment bank is paying the company for the publicity and goodwill it will generate 
D) This minimizes moral hazard

Question 17

Most individuals save at banks rather than lend directly because:

Accepted Answer

A) The bank creates information asymmetry 
B) Moral hazard exists only when individuals make loans directly to borrowers, it does not occur when banks issue loans 
C) Banks through economies of scale can reduce the cost of information asymmetry 
D) Information asymmetry is a problem for individuals but not for banks

Question 18

The principal-agent problem is quite common in large public corporations due to:

Accepted Answer

A) The fact that large corporations generate large sales volumes 
B) The fact that large companies employ many people 
C) Too little regulation by government 
D) The fact that the people making the operational decisions are usually not the owners

Question 19

Please explain how financial intermediaries contribute to increasing the output of an economy.

Accepted Answer

The answer of Please explain how financial intermediaries contribute to...

Question 20

If a bank has 1,000 depositors, each of whom deposits $1,000 in the bank, and the bank makes 100 loans of $10,000 each, then each depositor has contributed:

Accepted Answer

A) $100 to each loan 
B) $1 to each loan 
C) $10 to each loan 
D) $1000 to each loan

Exam 11: The Economics of Financial Intermediation