Course work
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SECTION I: PROBLEM SOLVING QUESTIONS
1. (10 points) Suppose a bank’s assets and liabilities have been classified into assets and liabilities that are rate sensitive and those that are not. The data (in millions of dollars) are as follows:
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Assets |
Liabilities |
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Rate Sensitive |
Short-term securities |
35
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Rate Sensitive |
Variable CDs |
20 |
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Variable mortgage
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50 |
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Short-term debt |
25 |
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Fixed Rate |
Long-term securities
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5 |
Fixed Rate |
Long-term debt |
50 |
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Physical capital
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10 |
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Capital (equities) |
5 |
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Total |
100 |
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Total |
100 |
a) (3 points) Calculate the effect of a decline of interest rates by 3% on bank income. Clearly indicate the direction (sign) of the change and the unit of measurement. SHOW your calculations!
b) (3 points) Calculate the effect of a decline of interest rates by 3% on interest margin. Clearly indicate the direction (sign) of the change and the unit of measurement. SHOW your calculations!
c) (4 points) Supposed the bank management is trying to change the sizes of their assets and liabilities such that the rate change (re decline of interest rates by 3%) produces an interest income of $1.35 million. Fill in the balance sheet to achieve such profit.
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Assets |
Liabilities |
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Rate Sensitive |
Short-term securities |
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Rate Sensitive |
Variable CDs |
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Variable mortgage
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Short-term debt |
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Fixed Rate |
Long-term securities
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Fixed Rate |
Long-term debt |
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Physical capital
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Capital (equities) |
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Total |
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Total |
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2. (15 points) XYZ Bank has total asset value of $200 million, and total liability value of $200 million where $20 million is the equity capital. The average duration of the assets is calculated to be 2.5, and the average duration of liabilities is 1.1.
a. (2 points) What is the duration gap for XYZ bank? (Round to two decimal places) Show your calculations!
b. (3 points) What is the change in the market value of net worth as a percentage of assets (ΔNW/A) if interest rates fall from 6% to 5%? (Round to one decimal place) Show your calculations!
c. (4 points) (Round to one decimal place) Show your calculations!
a. What is the percentage change in the market value of assets (%ΔA)?
b. What is the dollar change in the market value of assets?
d. (4 points) (Round to one decimal place) Show your calculations!
a. What is the percentage change in the market value of liabilities (%ΔA)?
b. What is the dollar change in the market value of liabilities?
e. (2) What is the dollar change in the net worth? (Round to one decimal place) Show your calculations!
2. (10 points) One of the ways the Bank of Canada exercises control over the monetary base is through its purchases and sales of government securities in the open market, called open market operations.
a) (3 points) How will a Bank of Canada purchase of $100 of government bonds from banks affect the monetary base? Fill in the following T-accounts in arriving at your answer. Clearly mention what asset and/or liability item will be affected, the direction of the change ((+) or (-)) and the dollar amount of the change.
Banking System
Assets |
Liabilities |
The Bank of Canada
Assets |
Liabilities |
Change in monetary base = --------------$
b) (3 points) How will a Bank of Canada sale of $100 of government bonds to the nonbank public affect the monetary base if the nonblank public pays for the bonds with currency? Fill in the following T-accounts in arriving at your answer. Follow the instructions provided in part a).
Nonbank Public
Assets |
Liabilities |
The Bank of Canada
Assets |
Liabilities |
Change in monetary base = --------------$
c) (4 points) How will a Bank of Canada purchase of $100 of government bonds from the nonblank public affect the monetary base if the Bank pays for the bonds with Bank’s cheques? Fill in the following T-accounts in arriving at your answer. Follow the instructions provided in part a).
Nonbank Public
Assets |
Liabilities |
Banking System
Assets |
Liabilities |
The Bank of Canada
Assets |
Liabilities |
Change in monetary base = --------------$
3. (5 points) Suppose the desired reserve ratio is set at 10% in the banking system.
a. What would be the total change in the deposits in the banking system if the central bank sells $2 million government bonds to bank A? Show your calculations!
b. What would be the total change in the deposits in the banking system if the central bank buys $1 million government bonds from bank A given that an additional 10% of any deposits are held as excess reserves? Show your calculations!
4. (5 points) Suppose the central bank’s goal for inflation is 2%, and the equilibrium real overnight rate is 2%.
Assume that real GDP is currently 1% above potential, and current inflation is 3%. Use the Taylor Rule to calculate the target overnight rate AND the value of the real overnight rate that is implied by that target rate. Is monetary policy expansionary, contractionary, or neutral? How will GDP growth and inflation be affected by this monetary policy? Show calculations! Explain!
5. (5 points) How would paying off Bank of Canada’s advances of $100 by the banking system affect MS if desired reserve ratio is 10% and the desired currency holding ratio is 25%? Use the money multiplier to explain your answer. Show calculations and interpret the results.
SECTION II: ESSAY
1. (10 points) Suppose Canadian economy is facing economic slowdown, and you are in charge of implementing necessary monetary policy to revive things. What is the policy you would implement? Describe 3 monetary transmission mechanisms that would lead to economic recovery. (Please limit your answer to the space provided).
SECTION III: MULTIPLE CHOICE QUESTIONS (1 point each)
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1. If reserves in the banking system increase by $100, then checkable deposits will increase by $500 in the simple model of deposit creation when the required reserve ratio is: a. 0.2 b. 0.10 c. 0.05 d. 0.01
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2. Both------------- and ------------- are monetary liabilities of the Bank of Canada. a. Government securities; discount loans b. Currency in circulation; discount loan c. Government securities; reserves d. Currency in circulation; reserves 3. Which of the following are found on the asset side of the Bank of Canada’s balance sheet? a. Government securities b. Government deposits c. Currency in circulation d. Only (a) and (c) of the above 4. Which of the following are found on the liability side of the Bank of Canada’s balance sheet? a. Advances to banks b. Reserves c. Currency in Circulation d. Both (b) and (c) of the above
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5. When the Bank of Canada engages in open market purchase, it --------- securities that the other party agrees to ------. a. Buys; buy b. Buys; sell c. Sells; buy d. Sells; sell |
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6. Which of the following transmission mechanisms describes the “wealth effect” channel the best? a. M increase →Pe increase→πe increase → ir decrease → I increase → Y increase b. M increase →Pe increase→ W increase → C decrease → Y increase c. M increase → ir decrease → currency decrease →E decrease → NX increase → Y increase d. None of the above 7. Taylor Rule states that: a. The monetary authorities should raise nominal interest rates by more than the increase in the inflation rate. b. The monetary authorities should raise real interest rates by more than the increase in the inflation rate. c. The monetary authorities should decrease nominal interest rates by more than the decrease in the inflation rate. d. Both a. and c. of the above 8. Select the correct statement regarding Canadian Schedule I and II banks: a. Schedule I banks must be widely held; schedule II banks can have more than 10% shareholders b. Any widely held and regulated Canadian financial institution (other than a bank) can own 100% of both schedule I and II banks. c. Widely held foreign banks can own 100% of a Canadian bank subsidiary d. Only (a) and (c) are correct 9. Monetary authorities implement contractionary monetary policy and use monetary instruments in the following way: a. Economy overgrowing – increase money supply, decrease interest rates. b. Economy underperforming – increase money supply, decrease interest rates c. Economy overgrowing – decrease money supply, increase interest rates d. Economy underperforming – decrease money supply, increase interest rates 10. All but ----------- are general principles of bank management: a. Commodity management b. Liability management c. Liquidity management d. Asset management 11. For foreign holders of US assets, the real return (RET) is higher if the US: a. The US dollar appreciates against the foreign currency b. RET on US asset held by a foreigner is equal to the sum of nominal RET on asset and appreciation of the US dollar c. RET on US asset held by a foreigner is equal to the difference of nominal RET on asset and appreciation of the foreign currency d. All of the above 12. If the US dollar appreciates from 1.25 Swiss franc per US dollar to 1.5 francs per dollar, then the franc depreciates from ------- US dollars per franc to -------- US dollars per franc. a. 0.80; 0.67 b. 0.67; 0.80 c. 0.50; 0.33 d. 0.33; 0.50 13. One of the reasons banks hold lower capital asset ratio is: a. Lower capital asset ratio increases return on equities b. Lower capital asset ratio increases return on assets c. Lower capital asset ratio solves bankruptcy issues d. All of the above 14. Near Banks in Canada are financial institutions: a. That are built near major banks b. That are always covered by CDIC c. That do not accept deposits but do extend loans d. That have limited banking functions 15. In the Income Gap analysis it is correct to assume that a. If RSA > RSL, rise in interest rates will increase bank interest income b. If RSA > RSL, rise in interest rates will decrease bank interest income c. If RSA < RSL, rise in interest rates will increase bank interest income d. None of the above 16. If the Euro/$US exchange rate is 1.05 €/$ in New York but 1.1€/$ in London, we should see: a. People selling $’s and buying euros in New York and then selling those euros and buying $’s in London b. People selling euros and buying $’s in New York and then buying euros by selling $’s in London c. The price differential between the markets increase as people seek to take advantage of the situation d. The $ should appreciate in New York relative to the Euro 17. The price of one Canadian dollar is 0.8642 US dollars, and the price of one Euro is 1.1979 US dollars. The price of Euro in terms of Canadian dollar is: a. 0.7214 b. 1.3861 c. There is not sufficient information to calculate this value d. Both a and b are correct values 18. If Americans lose their taste for Mexican made goods, we should observe the following change(s) in the dollar-peso market: a. The supply curve of dollars shifts right b. The demand curve for dollars shifts left c. The supply curve of dollars shifts left d. The demand curve for dollars shifts right 19. An expected depreciation of the dollar, everything else held constant, should cause: a. The supply of dollars to decrease b. The demand for dollars to increase c. The demand for dollars to decrease d. The dollar to appreciate now relative to other currencies 20. Bank can lower bank’s capital by: a. Issuing more stocks b. Reducing dividends to shareholders c. Issue fewer loans or sell securities and use proceeds to reduce liabilities d. Acquire new funds and increase assets
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