Exam 3: The What, How, and Why of Financial Intermediaries

Use the following information for questions Suppose there are assets whose owners wish to attract capital.Due to adverse selection problem, a cost must be incurred in order to learn the value of those assets.There are individuals who specialize in producing information about firms.It costs the information producer i.p. $5 to produce information.The i.p.is risk averse and has a utility function of where X is the i.p.'s wealth.Each i.p.has an alternative employment which provides a minimum level of expected utility of $30.Suppose that the owners of the assets approach the i.p.directly, and assume that they can monitor the i.p.to learn if the i.p.has invested in information production.The monitoring is noisy and it says that the i.p.produced information with probability 0.6 and did not produce information with probability 04.If the i.p.did not produce information, the signal says that he did with probability 0.5, and that he did not with probability 0.5.Suppose the asset owners tell the i.p.that they will pay $H if the i.p.produced information and $L if he did not. -What is the expected cost of information production?

Use the following information for questions Suppose there are assets whose owners wish to attract capital.Due to adverse selection problem, a cost must be incurred in order to learn the value of those assets.There are individuals who specialize in producing information about firms.It costs the information producer i.p. $5 to produce information.The i.p.is risk averse and has a utility function of where X is the i.p.'s wealth.Each i.p.has an alternative employment which provides a minimum level of expected utility of $30.Suppose that the owners of the assets approach the i.p.directly, and assume that they can monitor the i.p.to learn if the i.p.has invested in information production.The monitoring is noisy and it says that the i.p.produced information with probability 0.6 and did not produce information with probability 04.If the i.p.did not produce information, the signal says that he did with probability 0.5, and that he did not with probability 0.5.Suppose the asset owners tell the i.p.that they will pay $H if the i.p.produced information and $L if he did not. -What is the incentive compatibility condition for the i.p.compensation i.e., that induces the i.p.to produce information)?

Use the following information for questions Suppose there is one depositor who earns an income of $100 in each period.She spends $50 for consumption and the remainder goes to her savings account.Assume that a bank doesn't do anything with this money except safeguards it.The bank charges $5 for safeguarding fee. -If the probability of theft is 0.2, what is the necessary and sufficient condition for personal safeguarding to be optimal?

Other thing equal, an increase in the reserve requirement will

What is the benefit of having a large financial intermediary consisting of many information producers?

Suppose the government uses open market operations to buy Treasury securities from public.This will result in

Use the following information for questions Suppose that the banking industry is competitive and it has zero equity.The effective legal reserve requirement is 25%.Assume that there are three banks, A, B, and C.Bank A initially receives $2,500 in deposits. -According to the Fixed Coefficient Model, what is the amount of excess reserves in Bank A?

When two or more information producers coalesce by forming a financial intermediary to cooperatively generate information about particular firms,

Use the following information for questions Suppose there is one depositor who earns an income of $100 in each period.She spends $50 for consumption and the remainder goes to her savings account.Assume that a bank doesn't do anything with this money except safeguards it.The bank charges $5 for safeguarding fee. -Suppose that there are now five depositors with the same pattern of income and consumption as in the original problem.There is a known fraction of 0.4 of the depositors who wish to withdraw at the end of the first period.The remaining depositors will withdraw at the end of the second period.What is the amount of money that the bank must have available at the end of the first period?

When the government sell Treasury securities via open market operations, there will be...

A reduction in the legal reserve requirement will, other things equal,

Other things equal, a decrease in the discount rate will

What is the key service performed by a goldsmith?

Use the following information for questions Suppose there is one depositor who earns an income of $100 in each period.She spends $50 for consumption and the remainder goes to her savings account.Assume that a bank doesn't do anything with this money except safeguards it.The bank charges $5 for safeguarding fee. -If there are two merchants who wish to borrow $100 at t = 0, and the bank charges 18% loan rate, what is the bank's aggregate profit from lending?

Use the following information for questions Suppose there is one depositor who earns an income of $100 in each period.She spends $50 for consumption and the remainder goes to her savings account.Assume that a bank doesn't do anything with this money except safeguards it.The bank charges $5 for safeguarding fee. -There are five depositors with the same pattern of income and consumption as in the original problem, a fraction of them 0.4) will withdraw at t = 1.If the bank charges $5 for safeguarding fee and it costs $3 to monitor a merchant, what is the minimum number of merchants that the bank can lend to without exposing itself to withdrawal risk at t = 1?

Use the following information for questions Suppose there is one depositor who earns an income of $100 in each period.She spends $50 for consumption and the remainder goes to her savings account.Assume that a bank doesn't do anything with this money except safeguards it.The bank charges $5 for safeguarding fee. -A known fraction of 0.4 of the depositors will withdraw at t = 1.How much will they receive?

Due to the nature of the fractional reserve banking, a bank

Use the following information for questions Suppose that the banking industry is competitive and it has zero equity.The effective legal reserve requirement is 25%.Assume that there are three banks, A, B, and C.Bank A initially receives $2,500 in deposits. -The legal reserve requirement is now changed to 20%.Bank A receives an initial deposit of $2,500.Bank A has excess reserves which will be deposited in Bank B, which in turn, has excess reserves which will be deposited in Bank C.What does Bank C have in excess reserves?

Use the following information for questions Suppose there is one depositor who earns an income of $100 in each period.She spends $50 for consumption and the remainder goes to her savings account.Assume that a bank doesn't do anything with this money except safeguards it.The bank charges $5 for safeguarding fee. -Suppose that there are two merchants who wish to borrow $100 at t = 0.There are five depositors who have the same pattern of income and consumption as in the original problem.How much can the bank promise to pay to the depositors in the aggregate if it does not pass along any profits it receives from the loan?

Use the following information for questions Suppose there is one depositor who earns an income of $100 in each period.She spends $50 for consumption and the remainder goes to her savings account.Assume that a bank doesn't do anything with this money except safeguards it.The bank charges $5 for safeguarding fee. -Assume that there is a merchant who needs $100 to open a shop at t = 0.There are five depositors.The shop can generate a cash flow of $130 at t = 2.The bank charges the merchant a loan rate of 18%.However, due to moral hazard, the merchant must be monitored, and this costs $3.The merchant will