Question 1

Why do higher interest rates increase adverse selection problems in the loan market?

Accepted Answer

A)  Higher interest rates reduce the gains from economies of scale. 
B)  As interest rates rise, the creditworthiness of the average loan applicant declines. 
C)  Higher interest rates reduce information problems in the loan market. 
D)  At higher interest rates fewer investment projects are profitable. 
A)  Higher interest rates reduce the gains from economies of scale. 
B)  As interest rates rise, the creditworthiness of the average loan applicant declines. 
C)  Higher interest rates reduce information problems in the loan market. 
D)  At higher interest rates fewer investment projects are profitable.

Question 2

Which of the following is NOT an example of adverse selection?

Accepted Answer

A)  A family with a home ten feet from a large river buys flood insurance. 
B)  A company uses the proceeds of a new stock sale to build an unnecessarily luxurious new headquarters. 
C)  A terminal cancer patient buys life insurance. 
D)  A company in serious financial trouble offers to pay you 30% on a loan. 
A)  A family with a home ten feet from a large river buys flood insurance. 
B)  A company uses the proceeds of a new stock sale to build an unnecessarily luxurious new headquarters. 
C)  A terminal cancer patient buys life insurance. 
D)  A company in serious financial trouble offers to pay you 30% on a loan.

Question 3

Financial intermediaries are able to exploit economies of scale since

Accepted Answer

A)  the equipment or expertise necessary for one transaction can be applied to other transactions. 
B)  they have special licenses needed to perform financial transactions. 
C)  financial markets fail to do so. 
D)  they can reduce transactions cost, but not information costs. 
A)  the equipment or expertise necessary for one transaction can be applied to other transactions. 
B)  they have special licenses needed to perform financial transactions. 
C)  financial markets fail to do so. 
D)  they can reduce transactions cost, but not information costs.

Question 4

What are the various ways that financial intermediaries can take advantage of economies of scale?

Accepted Answer

Standardized legal contracts enable the

Question 5

Individual investors can reduce transactions costs by

Accepted Answer

A)  buying common stock rather than bonds. 
B)  combining their purchases through an intermediary. 
C)  common stocks directly, rather than through a mutual fund. 
D)  making loans directly, rather than depositing funds in a bank. 
A)  buying common stock rather than bonds. 
B)  combining their purchases through an intermediary. 
C)  common stocks directly, rather than through a mutual fund. 
D)  making loans directly, rather than depositing funds in a bank.

Question 6

Venture capital firms attempt to overcome the principal-agent problem by

Accepted Answer

A)  investing only in industries with high profit rates. 
B)  charging high interest rates on loans. 
C)  holding large equity stakes in the firms they invest in. 
D)  avoiding investing in common stock. 
A)  investing only in industries with high profit rates. 
B)  charging high interest rates on loans. 
C)  holding large equity stakes in the firms they invest in. 
D)  avoiding investing in common stock.

Question 7

How do high interest rates increase the risk of adverse selection in the bond market?

Accepted Answer

Investors often reason that as interest

Question 8

Moral hazard problems arise when

Accepted Answer

A)  lenders have difficulty in distinguishing between good and lemon firms. 
B)  when a downturn in economic activity makes repaying loans difficult for borrowers. 
C)  borrowers default on loans. 
D)  borrowers have an incentive to conceal information. 
A)  lenders have difficulty in distinguishing between good and lemon firms. 
B)  when a downturn in economic activity makes repaying loans difficult for borrowers. 
C)  borrowers default on loans. 
D)  borrowers have an incentive to conceal information.

Question 9

When interest rates in the bond market rise,

Accepted Answer

A)  adverse selection problems increase. 
B)  adverse selection problems are mitigated. 
C)  moral hazard problems increase. 
D)  moral hazard problems are mitigated. 
A)  adverse selection problems increase. 
B)  adverse selection problems are mitigated. 
C)  moral hazard problems increase. 
D)  moral hazard problems are mitigated.

Question 10

The reduction in transactions costs brought about by financial intermediaries benefits

Accepted Answer

A)  small savers, but not small borrowers. 
B)  small borrowers, but not small savers. 
C)  both small savers and small borrowers. 
D)  society through greater economic efficiency; small savers and borrowers do not gain directly. 
A)  small savers, but not small borrowers. 
B)  small borrowers, but not small savers. 
C)  both small savers and small borrowers. 
D)  society through greater economic efficiency; small savers and borrowers do not gain directly.

Question 11

The presence of transactions costs and information costs

Accepted Answer

A)  lowers the cost of funds to borrowers. 
B)  raises the expected return to lenders. 
C)  lowers the expected return to lenders. 
D)  increases the efficiency of the financial system. 
A)  lowers the cost of funds to borrowers. 
B)  raises the expected return to lenders. 
C)  lowers the expected return to lenders. 
D)  increases the efficiency of the financial system.

Question 12

Small savers face

Accepted Answer

A)  low transactions costs in financial markets. 
B)  high transactions costs in financial intermediaries. 
C)  low transactions costs in financial intermediaries. 
D)  low information costs in financial intermediaries, but high transactions costs. 
A)  low transactions costs in financial markets. 
B)  high transactions costs in financial intermediaries. 
C)  low transactions costs in financial intermediaries. 
D)  low information costs in financial intermediaries, but high transactions costs.

Question 13

Why are corporations more likely to raise funds externally by debt instead of equity?

Accepted Answer

A)  moral hazard is less of a problem with debt contracts 
B)  transactions costs tend to be higher in the stock market than bond market 
C)  to avoid paying dividends 
D)  interest rates tend to be lower than dividend rates 
A)  moral hazard is less of a problem with debt contracts 
B)  transactions costs tend to be higher in the stock market than bond market 
C)  to avoid paying dividends 
D)  interest rates tend to be lower than dividend rates

Question 14

Moody's Investors Service is able to make a profit because

Accepted Answer

A)  most investors are irrational. 
B)  of the existence of adverse selection problems. 
C)  fluctuations in interest rates make default risk on corporate bonds difficult to gauge. 
D)  small investors like the mutual funds they sell. 
A)  most investors are irrational. 
B)  of the existence of adverse selection problems. 
C)  fluctuations in interest rates make default risk on corporate bonds difficult to gauge. 
D)  small investors like the mutual funds they sell.

Question 15

Banks earn a profit by

Accepted Answer

A)  charging savers and borrowers fees for reducing transactions costs. 
B)  holding large equity positions in major corporations. 
C)  holding large equity positions in small firms. 
D)  publishing ratings of corporate bonds. 
A)  charging savers and borrowers fees for reducing transactions costs. 
B)  holding large equity positions in major corporations. 
C)  holding large equity positions in small firms. 
D)  publishing ratings of corporate bonds.

Question 16

Lenders prefer to lend to firms with high net worth because

Accepted Answer

A)  such firms are usually willing to pay higher interest rates. 
B)  the owners of such firms have more to lose if the firm defaults on a loan. 
C)  the government requires most bank loans to be made to such firms. 
D)  such firms usually are unable to raise funds directly through financial markets. 
A)  such firms are usually willing to pay higher interest rates. 
B)  the owners of such firms have more to lose if the firm defaults on a loan. 
C)  the government requires most bank loans to be made to such firms. 
D)  such firms usually are unable to raise funds directly through financial markets.

Question 17

A firm's principals are its

Accepted Answer

A)  shareholders. 
B)  management. 
C)  values. 
D)  customers. 
A)  shareholders. 
B)  management. 
C)  values. 
D)  customers.

Question 18

How can restrictive covenants help to reduce moral hazard in bond markets?

Accepted Answer

Restrictive covenants either p

Question 19

The "lemons problem" in the used car market arises from

Accepted Answer

A)  the difficulty U.S. producers have in making reliable cars. 
B)  the difficulty buyers have in distinguishing good cars from lemons. 
C)  the tendency of buyers of used cars to pay for them with bad checks. 
D)  the reluctance of many car dealers to handle used cars. 
A)  the difficulty U.S. producers have in making reliable cars. 
B)  the difficulty buyers have in distinguishing good cars from lemons. 
C)  the tendency of buyers of used cars to pay for them with bad checks. 
D)  the reluctance of many car dealers to handle used cars.

Question 20

Moral hazard is not eliminated in debt financing because

Accepted Answer

A)  borrowers have an incentive to assume greater risk than is in the interest of the lender. 
B)  firms with a great deal of debt often go bankrupt. 
C)  principal-agent problems are greater with debt financing than with equity financing. 
D)  the use of restrictive covenants tends to increase moral hazard. 
A)  borrowers have an incentive to assume greater risk than is in the interest of the lender. 
B)  firms with a great deal of debt often go bankrupt. 
C)  principal-agent problems are greater with debt financing than with equity financing. 
D)  the use of restrictive covenants tends to increase moral hazard.

Why do higher interest rates increase adverse selection problems in the loan market?

Which of the following is NOT an example of adverse selection?

Financial intermediaries are able to exploit economies of scale since

What are the various ways that financial intermediaries can take advantage of economies of scale?

Individual investors can reduce transactions costs by

Venture capital firms attempt to overcome the principal-agent problem by

How do high interest rates increase the risk of adverse selection in the bond market?

Moral hazard problems arise when

When interest rates in the bond market rise,

The reduction in transactions costs brought about by financial intermediaries benefits

The presence of transactions costs and information costs

Small savers face

Why are corporations more likely to raise funds externally by debt instead of equity?

Moody's Investors Service is able to make a profit because

Banks earn a profit by

Lenders prefer to lend to firms with high net worth because

A firm's principals are its

How can restrictive covenants help to reduce moral hazard in bond markets?

The "lemons problem" in the used car market arises from

Moral hazard is not eliminated in debt financing because

Introducing Money and the Financial System

Money and the Payments System

Interest Rates and Rates of Return

Determining Interest Rates

The Risk Structure and Term Structure of Interest Rates

The Stock Market, information, and Financial Market Efficiency

Derivatives and Derivative Markets

The Market for Foreign Exchange

The Economics of Banking

Investment Banks, mutual Funds, hedge Funds, and the Shadow Banking System

Financial Crises and Financial Regulation

The Federal Reserve and Central Banking

The Federal Reserves Balance Sheet and the Money Supply Process

Monetary Policy

The International Financial System and Monetary Policy

Monetary Theory I: the Aggregate Demand and Aggregate Supply Model

Monetary Theory Ii: the Is-Mp Model

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Exam 9: Transactions Costs, asymmetric Information, and the Structure of the Financial System

Why do higher interest rates increase adverse selection problems in the loan market?

Which of the following is NOT an example of adverse selection?

Financial intermediaries are able to exploit economies of scale since

What are the various ways that financial intermediaries can take advantage of economies of scale?

Individual investors can reduce transactions costs by

Venture capital firms attempt to overcome the principal-agent problem by

How do high interest rates increase the risk of adverse selection in the bond market?

Moral hazard problems arise when

When interest rates in the bond market rise,

The reduction in transactions costs brought about by financial intermediaries benefits

The presence of transactions costs and information costs

Small savers face

Why are corporations more likely to raise funds externally by debt instead of equity?

Moody's Investors Service is able to make a profit because

Banks earn a profit by

Lenders prefer to lend to firms with high net worth because

A firm's principals are its

How can restrictive covenants help to reduce moral hazard in bond markets?

The "lemons problem" in the used car market arises from

Moral hazard is not eliminated in debt financing because

Introducing Money and the Financial System

Money and the Payments System

Interest Rates and Rates of Return

Determining Interest Rates

The Risk Structure and Term Structure of Interest Rates

The Stock Market, information, and Financial Market Efficiency

Derivatives and Derivative Markets

The Market for Foreign Exchange

The Economics of Banking

Investment Banks, mutual Funds, hedge Funds, and the Shadow Banking System

Financial Crises and Financial Regulation

The Federal Reserve and Central Banking

The Federal Reserves Balance Sheet and the Money Supply Process

Monetary Policy

The International Financial System and Monetary Policy

Monetary Theory I: the Aggregate Demand and Aggregate Supply Model

Monetary Theory Ii: the Is-Mp Model

Filters