Question: The Federal Reserve purchases $1,000,000

> Which components of operating expenses experience the greatest fluctuations? Why?

> Why has the development of overnight loan markets made it more likely that banks will hold fewer excess reserves?

> If the bank you own has no excess reserves and a sound customer comes in asking for a loan, should you automatically turn the customer down, explaining that you don’t have any excess reserves to loan out? Why or why not? What options are available for yo

> If the president of a bank told you that the bank was so well run that it has never had to call in loans, sell securities, or borrow as a result of a deposit outflow, would you be willing to buy stock in that bank? Why or why not?

> If a bank is falling short of meeting its capital requirements by $1 million, what three things can it do to rectify the situation?

> If a bank finds that its ROE is too low because it has too much bank capital, what can it do to raise its ROE?

> You have paid $980.30 for an 8% coupon bond with a face value of $1,000 that matures in five years. You plan on holding the bond for one year. If you want to earn a 9% rate of return on this investment, what price must you sell the bond for? Is this real

> Why do equity holders care more about ROE than about ROA?

> The balance sheet of TriBank starts with an allowance for loan losses of $1.33 million. During the year, TriBank charges off worthless loans of $0.84 million, recovers $0.22 million on loans previously charged off, and charges current income for a $1.48

> For the upcoming week, Nobel National Bank plans to issue $25 million in mortgages and purchase $100 million in 31-day T-bills. New deposits of $35 million are expected, and other sources will generate $15 million in cash. What is Nobel’s estimate of fun

> X-Bank reported an ROE of 15% and an ROA of 1%. How well capitalized is this bank?

> NewBank also pays off its fed funds borrowed. How much cash is owed? How is this recorded?

> The end of the month finally arrives for NewBank, and it receives all the required payments from its mortgages, commercial loans, and T-bills. How much cash was received? How are these transactions recorded?

> To meet any shortfall in the previous question, NewBank will borrow the cash in the federal funds market. Management decides to borrow the needed funds for the remainder of the month (now 29 days). The required yield on a discount basis is 2.9%. What doe

> On the third day of operations, deposits fall by $5 million. What does the balance sheet look like? Are there any problems?

> NewBank decides to invest $45 million in 30-day T-bills. The T-bills are currently trading at $4,986.70 (including commissions) for a $5,000 face value instrument. How many do they purchase? What does the balance sheet look like?

> NewBank started its first day of operations with $6 million in capital. $100 million in checkable deposits is received. The bank issues a $25 million commercial loan and another $25 million in mortgages, with the following terms: • Mortgages: 100 standar

> A 10-year, 7% coupon bond with a face value of $1,000 is currently selling for $871.65. Compute your rate of return if you sell the bond next year for $880.10.

> A bank estimates that demand deposits are, on average, $100 million with a standard deviation of $5 million. The bank wants to maintain a minimum of 8% of deposits in reserves at all times. What is the highest expected level of deposits during the month?

> Refer to the previous question. In 1981 Congress allowed S&Ls to sell mortgages at a loss and to amortize the loss over the remaining life of the mortgage. If this were used for the previous question, how would the transaction have been recorded? What wo

> Wiggley S&L issues a standard 30-year fixed-rate mortgage at 7.8% for $150,000. Thirty-six months later, mortgage rates jump to 13%. If the S&L sells the mortgage, how much of a loss is incurred?

> After making payments for three years, one of the mortgage borrowers defaults on the mortgage. NewBank immediately takes possession of the house and sells it at auction for $175,000. Legal fees amount to $25,000. If no loan loss reserve was established f

> If NewBank’s target ROE is 4.5%, how much net fee income must it generate to meet this target?

> If NewBank were required to establish a loan loss reserve at 0.25% of the loan value for commercial loans, how would this be recorded? Recalculate NewBank’s ROE and final balance sheet, including its tax liabilities.

> Calculate NewBank’s ROE and final balance sheet, including its tax liabilities.

> Calculate NewBank’s ROA and NIM for its first month. Assume that net interest equals earnings before taxes, and that NewBank is in the 34% tax bracket.

> What does the month-end balance sheet for NewBank look like? Calculate this before any income tax consideration.

> What is the exchange rate between dollars and Swiss francs if one dollar is convertible into 1/20 ounce of gold and one Swiss franc is convertible into 1/40 ounce of gold?

> Property taxes in DeKalb County are roughly 2.66% of the purchase price every year. If you just bought a $100,000 home, what is the PV of all the future property tax payments? Assume that the house remains worth $100,000 forever, property tax rates never

> “Balance-of-payments deficits always cause a country to lose international reserves.” Is this statement true, false, or uncertain? Explain your answer.

> Why can balance-of-payments deficits force some countries to implement a contractionary monetary policy?

> How can a large balance-of-payments surplus contribute to the country’s inflation rate?

> If a country’s par exchange rate was undervalued during the Bretton Woods fixed exchange rate regime, what kind of intervention would that country’s central bank be forced to undertake, and what effect would it have on its international reserves and the

> Under fixed exchange rates, if Britain becomes more productive relative to the United States, what foreign exchange intervention is necessary to maintain the fixed exchange rate between dollars and pounds? Which country undertakes this intervention?

> Why does a balance-of-payments deficit for the United States have a different effect on its international reserves than a balance-of-payments deficit for the Netherlands?

> For each of the following, identify in which part of the balance-of-payments account it appears (current account, capital account, or net change in international reserves) and whether it is a receipt or a payment: a. A British subject’s purchase of a sha

> If the Federal Reserve buys dollars in the foreign exchange market but does not sterilize the intervention, what will be the effect on international reserves, the money supply, and the exchange rate?

> If the Federal Reserve buys dollars in the foreign exchange market but conducts an offsetting open market operation to sterilize the intervention, what will be the effect on international reserves, the money supply, and the exchange rate?

> What steps should an international lender of last resort take to limit moral hazard?

> What is the price of a perpetuity that has a coupon of $50 per year and a yield to maturity of 2.5%? If the yield to maturity doubles, what will happen to its price?

> Has the IMF done a good job in performing the role of the international lender of last resort?

> Why might central banks in emerging-market countries find that engaging in a lender-of-last-resort operation might be counterproductive? Does this provide a rationale for having an international lender of last resort like the IMF?

> Discuss the pros and cons of controls on capital inflows.

> Are controls on capital outflows a good idea? Why or why not?

> “The abandonment of fixed exchange rates after 1973 has meant that countries have pursued more independent monetary policies.” Is this statement true, false, or uncertain? Explain your answer.

> Why is it that in a pure flexible exchange rate system, the foreign exchange market has no direct effects on the monetary base and the money supply? Does this mean that the foreign exchange market has no effect on monetary policy?

> Why did the exchange rate peg lead to difficulties for the countries in the ERM when German reunification occurred?

> How can persistent U.S. balance-of-payments deficits stimulate world inflation?

> “If a country wants to keep its exchange rate from changing, it must give up some control over its money supply.” Is this statement true, false, or uncertain? Explain your answer.

> You are willing to pay $15,625 now to purchase a perpetuity that will pay you and your heirs $1,250 each year, forever, starting at the end of this year. If your required rate of return does not change, how much would you be willing to pay if this were a

> If the dollar begins trading at $1.30 per euro, with the same interest rates given in Problem 3, and the ECB raises interest rates so that the rate on euro deposits rises by 1 percentage point, what will happen to the exchange rate (assuming that the exp

> If the interest rate is 4% on euro deposits and 2% on dollar deposits, while the euro is trading at $1.30 per euro, what does the market expect the exchange rate to be one year from now?

> Again, the Federal Reserve purchases $1,000,000 of foreign assets. However, to raise the funds, the trading desk sells $1,000,000 in T-bills. Show the effect of this open market operation using T-accounts.

> If the balance in the current account increases by $2 billion while the capital account is off $3.5 billion, what is the effect on governmental international reserves?

> When the U.S. dollar depreciates, what happens to exports and imports in the United States?

> When the euro appreciates, are you more likely to drink California or French wine?

> If the European central bank decides to contract the money supply to fight inflation, what will happen to the value of the U.S. dollar?

> If American auto companies make a breakthrough in automobile technology and are able to produce a car that gets 60 miles to the gallon, what will happen to the U.S. exchange rate?

> In the mid- to late 1970s, the yen appreciated relative to the dollar even though Japan’s inflation rate was higher than America’s. How can this be explained by an improvement in the productivity of Japanese industry relative to American industry?

> If the demand for a country’s exports falls at the same time that tariffs on imports are raised, will the country’s currency tend to appreciate or depreciate in the long run?

> Assume you just deposited $1,000 into a bank account. The current real interest rate is 2%, and inflation is expected to be 6% over the next year. What nominal rate would you require from the bank over the next year? How much money will you have at the e

> If the Indian government unexpectedly announces that it will be imposing higher tariffs on foreign goods one year from now, what will happen to the value of the Indian rupee today?

> If the British central bank prints money to reduce unemployment, what will happen to the value of the pound in the short run and the long run?

> The president of the United States announces that he will reduce inflation with a new anti-inflation program. If the public believes him, predict what will happen to the exchange rate for the U.S. dollar.

> “A country is always worse off when its currency is weak (falls in value).” Is this statement true, false, or uncertain? Explain your answer.

> If expected inflation drops in Europe so that interest rates fall there, predict what will happen to the exchange rate for the U.S. dollar.

> If Mexicans go on a spending spree and buy twice as much French perfume, Japanese TVs, English sweaters, Swiss watches, and Italian wine, what will happen to the value of the Mexican peso?

> If nominal interest rates in America rise but real interest rates fall, predict what will happen to the U.S. exchange rate.

> Short-term interest rates are 2% in Japan and 4% in the United States. The current exchange rate is 120 yen per dollar. If you can enter into a forward exchange rate of 115 yen per dollar, how can you arbitrage the situation?

> Consider a bond with a 7% annual coupon and a face value of $1,000. Complete the following table. What relationships do you observe between maturity and discount rate and the current price? Years to Maturity Discount Rate Current Price 3 3 7 6 7 9

> In 1999 the euro was trading at $0.90 per euro. If the euro is now trading at $1.16 per euro, what is the percentage change in the euro’s value? Is this an appreciation or depreciation?

> The New Zealand dollar to U.S. dollar exchange rate is 1.36, and the British pound to U.S. dollar exchange rate is 0.62. If you find that the British pound to New Zealand dollar were trading at 0.49, what would you do to earn a riskless profit?

> If the Canadian dollar to U.S. dollar exchange rate is 1.28 and the British pound to U.S. dollar exchange rate is 0.62, what must the Canadian dollar to British pound exchange rate be?

> The six-month forward rate between the British pound and the U.S. dollar is $1.75 per pound. If six month interest rates are 3% in the United States and 150 basis points higher in England, what is the current exchange rate?

> The current exchange rate is 0.75 euro per dollar, but you believe the dollar will decline to 0.67 euro per dollar. If a euro-denominated bond is yielding 2%, what return do you expect in U.S. dollars?

> An investor in Canada purchased 100 shares of IBM on January 1 at $93.00 per share. IBM paid an annual dividend of $0.72 on December 31. The stock was sold that day as well for $100.25. The exchange rate was $0.68 per Canadian dollar on January 1 and $0.

> An investor in England purchased a 91-day T-bill for $987.65. At that time, the exchange rate was $1.75 per pound. At maturity, the exchange rate was $1.83 per pound. What was the investor’s holding period return in pounds?

> A German sports car is selling for 70,000 euros. What is the dollar price in the United States for the German car if the exchange rate is 0.90 euros per dollar?

> The interest rate in the United States is 4%, and the euro is trading at 1 euro per dollar. The euro is expected to depreciate to 1.1 euros per dollar. Calculate the interest rate in Germany.

> Short-term interest rates are 2% in Japan and 4% in the United States. The current exchange rate is 120 yen per dollar. What is the expected forward exchange rate?

> A one-year CD in Europe is currently paying 5%, and the exchange rate is currently 0.99 euros per dollar. If you believe the exchange rate will be 1.04 euros per dollar one year from now, what is the expected return in terms of dollars?

> If the price level recently increased by 20% in England while falling by 5% in the United States, how much must the exchange rate change if PPP holds? Assume that the current exchange rate is 0.55 pounds per dollar.

> The current exchange rate between the Japanese yen and the U.S. dollar is 120 yen per dollar. If the dollar is expected to depreciate by 10% relative to the yen, what is the new expected exchange rate?

> The current exchange rate between the United States and Britain is $1.825 per pound. The six-month forward rate between the British pound and the U.S. dollar is $1.79 per pound. What is the percentage difference between current six-month U.S. and British

> The Mexican peso is trading at 10 pesos per dollar. If the expected U.S. inflation rate is 2% while the expected Mexican inflation rate is 23% over the next year, what is the expected exchange rate in one year?

> The Brazilian real is trading at 0.375 real per U.S. dollar. What is the U.S. dollar per real exchange rate?

> What are discount points, and why do some mortgage borrowers choose to pay them?

> What features contribute to keeping long-term mortgage interest rates low?

> Most mortgage loans once had balloon payments; now most current mortgage loans fully amortize. What is the difference between a balloon loan and an amortizing loan?

> What distinguishes the mortgage markets from other capital markets?

> A bank has two, 3-year commercial loans with a present value of $70 million. The first is a $30 million loan that requires a single payment of $37.8 million in 3 years, with no other payments until then. The second is for $40 million. It requires an annu

> Describe how a mortgage pass-through works.

> What is a securitized mortgage?

> The reverse annuity mortgage (RAM) allows retired people to live off the equity they have in their homes without having to sell the home. Explain how a RAM works.

> Many banks offer lines of credit that are secured by a second mortgage (or lien) on real property. These loans have been very popular among bank customers. Why are homeowners so willing to pledge their homes as security for these lines of credit?

> The monthly payments on both graduated-payment loans and growing-equity loans increase over time. Despite this similarity, the two types of loans have different purposes. What is the motivation behind each type of loan?

> Interpret what is meant when a lender quotes the terms on a loan as “floating with the T-bill plus 2 with caps of 2 and 6.”

> Distinguish between conventional mortgage loans and insured mortgage loans.

> Lenders tend not to be as flexible about the qualifications required of mortgage customers as they can be for other types of bank loans. Why is this so?

> What kind of insurance do lenders usually require of borrowers who have less than an 80% loan-to-value ratio?