Solution Manual for Financial Institutions Management: A Risk Management Approach, 8th Edition

Preview (31 of 486 Pages)

100%

Purchase to unlock

Solution Manual for Financial Institutions Management: A Risk Management Approach, 8th Edition - Page 1 preview image

Loading page ...

Chapter 01-Why Are Financial Institutions Special?1-1Solutions for End-of-Chapter Questions and Problems: Chapter One1.What arefive risks common toallfinancial institutions?Default or credit risk of assets, interest rate risk caused by maturity mismatches between assetsand liabilities, liability withdrawal or liquidity risk, underwriting risk, and operatingrisks.2.Explain how economic transactions between household savers of funds and corporate usersof funds would occur in a world without financial institutions.In a world without FIs the users of corporate funds in the economy would have todirectlyapproach the household savers of funds in order tosatisfy their borrowing needs.This processwould be extremely costly because of the up-front information costs faced by potential lenders.Cost inefficiencies would arise with the identification of potential borrowers, the pooling ofsmall savings into loans of sufficient size to finance corporate activities, and the assessment ofrisk and investment opportunities.Moreover, lenders would have to monitor the activities ofborrowers over each loan's life span.The net result would be an imperfect allocation of resourcesin an economy.3.Identify and explain three economic disincentives thatwoulddampen the flow of fundsbetween household savers of funds and corporate users of funds in an economic worldwithout financialinstitutions.Investors generally are averse todirectlypurchasing securities because of (a) monitoring costs,(b) liquidity costs, and (c) price risk.Monitoring the activities of borrowers requires extensivetime, expense, and expertise.As a result, households would prefer to leave this activity to others,and by definition, the resulting lack of monitoring would increase the riskiness of investing incorporate debt and equity markets.The long-term nature of corporate equity and debtsecuritieswould likely eliminate at least a portion of those households willing to lend money, as thepreference of many for near-cash liquidity would dominate the extra returns which may beavailable.Finally, the price risk of transactions on the secondary markets would increase withoutthe information flows and services generated by high volume.4.Identify and explain the two functions FIsperformthatwouldenable the smooth flow offunds from household savers to corporate users.FIs serve as conduits between users and savers of funds by providing a brokerage function andby engaging inanasset transformation function.The brokerage function can benefit both saversand users of funds and can vary according to the firm. FIs may provide only transaction services,such as discount brokerages, or they also may offer advisory services which help reduceinformation costs, such as full-line firms likeMerrill Lynch.The asset transformation function isaccomplished by issuing their own securities, such as deposits and insurance policies that aremore attractive to household savers, and using the proceeds to purchase the primary securities ofcorporations.Thus, FIs take on the costs associated with the purchase of securities.

Preview Mode

This document has 486 pages. Sign in to access the full document!

Report

Study Now!

Document Details

Related Documents

Financial Institutions Management: A Risk Management Approach 5th edition Solution Manual

Texas Life and Health Insurance Exam 150 Questions

Understanding Obligation and Deobligation in Resou

Budgeting for Life After High School

Ch 4 les 1

Understanding Credit Reports Analyzing John's Fina

CEO pay at John Deere and Caterpillar

Efficiency Test in US Stock Market

Financial Research Report

Financial Planning and Budget Analysis

Company

Explore

Study Tools