Chapter 14 – Regulating the Financial System
Multiple Choice Questions
1. Empirical evidence points to the fact that financial crises:
A. Are newsworthy but have no impact on economic growth
2. Which of the following tradeoffs impact the likelihood of a bank’s failure?
A. The more competitive the banking environment, the more liquid the bank will be
Chapter 14 – Regulating the Financial System
3. Rumors of a bank failing, even if not true, can become a self-fulfilling prophecy because:
A. Customers will not want to obtain loans from this bank
4. What matters most during a bank run is:
A. The number of loans outstanding
5. Contagion is:
D. The rapid inflation that results from the printing of money
Chapter 14 – Regulating the Financial System
6. A bank run involves:
A. Illegal activities on the part of the bank’s officers
7. The federal government is concerned about the health of the banking system for many
reasons, the most important of which may be:
A. Banks are where government bonds are traded
8. When healthy banks fail due to widespread bank panics, those who are likely to be hurt
are:
C. The FDIC
D. The Federal Reserve
Chapter 14 – Regulating the Financial System
9. It is difficult for depositors to know the true health of banks because:
A. Regulations prohibit banks making their financial statements publicly available
10. The reason that a run on a single bank can turn into a bank panic that threatens the entire
D. The increased reliance on web-based funds transfers
11. Bank failures tend to occur most often during periods of:
Chapter 14 – Regulating the Financial System
12. Bank panics have often begun as a result of:
A. Rumors only
13. Deflation can cause widespread bank crises for all of the following reasons except:
A. A decline in the value of borrowers’ net worth but not their liabilities
14. Recession can cause widespread bank crises for all of the following reasons except:
A. There is less business investment as banks make fewer loans
Chapter 14 – Regulating the Financial System
15. The reasons for the government to get involved in the financial system include each of the
following, except:
D. To protect bank customers from monopolistic exploitation
16. An economic rationale for government protection of small investors is that:
D. Banks are often run by unethical managers who will often exploit small investors
17. The government regulates bank mergers, sometimes denying the proposed merger. Often
the reason given for the denial is to protect small investors. What are small investors being
protected from?
A. With a larger bank the bank is likely to take greater risk and may fail
Chapter 14 – Regulating the Financial System
18. The financial system is inherently more unstable than most other industries due to the fact
that:
A. While in most other industries customers disappear at a faster rate, in banking they
disappear slowly so the damage is done before the real problem is identified
19. The government’s role of lender of last resort is directed to:
A. Large manufacturing firms that employ thousands of people
D. The deposits that people have, but only for federally chartered banks
Chapter 14 – Regulating the Financial System
21. The government’s providing of deposit insurance and functioning as the lender of last
resort has significantly:
22. One of the unique problems that banks face is:
D. Both their assets and their liabilities are illiquid
23. The inter-bank loans that appear on banks’ balance sheets represent what proportion of
bank capital?
A. Nearly ten percent
Chapter 14 – Regulating the Financial System
24. The fact that banks often make loans to other banks means:
A. One bank failing will not have a large impact on the financial industry
25. The best way for a government to stop the failure of one bank from turning into a bank
panic is to:
D. Provide zero-interest rate loans to all banks regardless of net worth
26. The need for a lender of last resort was identified as far back as:
A. The start of the Great Depression in 1929
Chapter 14 – Regulating the Financial System
27. The creation of the Federal Reserve in 1913:
D. Was in response to the Great Depression in the U.S
28. If the lender of last resort function of the government is to be effective in working to
minimize a crisis, it must be:
A. Reserved only for those banks that are most deserving
29. The first test of the Federal Reserve as lender of last resort occurred with the:
A. Attack on Pearl Harbor by the Japanese
Chapter 14 – Regulating the Financial System
30. One lesson learned from the bank panics of the early 1930’s is:
D. The financial system will collapse without a lender of last resort
31. During a bank crisis:
D. A bank will go to the central bank for a loan before going to other banks
32. A moral hazard situation arises in the lender of last resort function because:
D. The central bank is the first place a bank facing a crisis will turn
Chapter 14 – Regulating the Financial System
33. If your stockbroker gives you bad advice and you lose your investment:
D. Your investment would only be covered if the stockbroker was employed by a bank
34. The existence of a lender of last resort creates moral hazard for bank managers because:
D. Banks seek loans from the central bank only after exploring other options
35. During the financial crisis of 2007-2009 in the United States it was revealed that the
function of a lender of last resort had not kept pace with the evolving financial system
D. banks had become sufficiently diversified so as to be able to provide for their own liquidity
Chapter 14 – Regulating the Financial System
36. When the Federal Reserve was unable to stem the bank panics of the 1930s, Congress
responded by:
A. Taking over the lender of last resort function and assigning this function to the U.S.
Treasury
37. All of the following are true about deposit insurance except:
A. Depositors do not need to involve themselves with the risk taking by bank managers
38. One reason customers do not care about the quality of their bank’s assets is:
A. Most people cannot distinguish an asset from a liability
Chapter 14 – Regulating the Financial System
39. On November 20, 1985, the Bank of New York needed to use the lender of last resort
function due to:
A. A run on the bank started by a rumor that the president of the bank embezzled tens of
millions of dollars from the bank
40. The payoff method used by the FDIC to address the insolvency of a bank is when the
FDIC:
A. Pays the owners of the bank for the losses they would otherwise face
41. Under the purchase-and-assumption method of dealing with a failed bank, the FDIC:
D. Sells off the profitable loans of the failed bank in an open auction
Chapter 14 – Regulating the Financial System
42. Considering the methods available to the FDIC for dealing with a failed bank, the
depositors of the failed bank should:
D. Prefer the payoff method since a lot less paperwork is involved for the depositor
43. Under the purchase-and-assumption method, the FDIC usually finds it:
A. Can sell the failed bank for more than the bank is actually worth
44. Many states had their own insurance fund to protect depositors. One problem with these
state funds is:
A. They are monopolies in their own state and extract extremely high prices for the insurance
they provide
Chapter 14 – Regulating the Financial System
45. Deposit insurance only seems to be viable at the federal level. This is likely due to the fact
that:
A. Only a few state funds are large enough to withstand a run on all banks they insure
46. In the ten years after the FDIC limit was increased to $100,000:
D. About the same number of banks and savings and loans failed than did during the first 46
years of FDIC’s existence
47. Which of the following statements is most correct?
D. Increasing the deposit insurance limits above $100,000 would increase coverage for over
50 percent of all depositors
Chapter 14 – Regulating the Financial System
48. Since the 1920’s, the ratio of assets to capital has almost tripled for commercial banks.
Many economists believe this is the direct result of:
A. Lower quality management in banks
49. As a result of government provided deposit insurance, the ratio of assets to capital for
commercial banks since the 1920s has:
D. Decreased
50. The moral hazard problem caused by government safety nets:
D. Only exists for banks with high leverage ratios
Chapter 14 – Regulating the Financial System
51. The government’s too-big-to-fail policy applies to:
D. Banks that have branches in more than two states
52. The government’s too-big-to-fail policy:
A. Increases the scrutiny of the bank’s risk by large corporate depositors
53. If the government did not offer the too-big-to-fail safety net:
D. The FDIC deposit insurance limits would have to be raised
Chapter 14 – Regulating the Financial System
54. Governments employ three strategies to contain the risks created by government safety
nets. These include each of the following, except:
D. Formal bank examination
55. The purpose of the government’s safety net for banks is to do each of the following,
except:
D. Improve the efficiency of the economy
56. Governments supervise banks mainly to do each of the following, except:
A. Reduce the potential cost to taxpayers of bank failures
Chapter 14 – Regulating the Financial System
57. Commercial banks are regulated by a combination of agencies including each of the
D. The Federal Deposit Insurance Corporation
58. Savings banks and savings and loans are regulated by a combination of agencies which
includes all of the following except:
D. State authorities
59. Savings banks and savings and loans are regulated by a combination of agencies which
includes the:
A. Federal Reserve System