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95. Briefly describe the combination of strategies used by government officials to protect
investors and ensure the stability of the financial system.
96. Explain why depository institutions receive a disproportionate amount of attention from
government regulators (compared to most other industries).
97. In 1873, British economist Walter Bagehot proposed that the central bank function as
the lender of last resort. Specifically, he suggested the central bank lend freely to banks
which have good collateral at high rates of interest. Why the requirements of good collateral
and a high rate of interest?
98. Does the lender of last resort function guarantee an end to bank runs? Explain.
99. How does the lender of last resort potentially create a moral hazard problem?
100. You have a retirement account in a bank that has failed. The balance in your account is
$330,000. Does it make a difference to you if FDIC uses the payoff method or the purchase-
and-assumption method for resolving this insolvency? Explain.
101. Imagine a situation where the deposits at state chartered banks would be insured by a
state insurance fund and deposits at nationally chartered banks would be insured by FDIC.
How would you expect both depositors and banks would react?
102. Explain why the ratio of assets to capital increased dramatically for commercial banks
from the 1920s to the present.
103. You are the head of finance for a very large corporation located in a relatively small
town. At a local chamber of commerce meeting, the president of the local bank asks you why
you keep the corporation's bank accounts in a very large mid-western bank and not in his
local bank. From a risk reduction perspective, how could you answer his question?
104. What is the link between the safety net provided by the government to the financial
industry and the relatively heavy regulation of the same industry by the government?
105. What three strategies are employed by government officials to ensure that the risks
created by the government safety net are contained?
106. What potential problems are created by regulatory competition?
107. Besides regulating banks, the government also regulates nondepository financial
institutions, such as insurance companies. Consider a property casualty insurance company;
why would the government need to regulate them?
108. Explain how bank regulators seem to face a bit of a paradox regarding preventing
monopoly power by banks and spurring competition.
109. Why are banks restricted in the assets that they can own? For example, why do you think
banks are prohibited from owning common stock?
110. If we lived in an economy where interest rates were highly volatile, would you expect
the maximum asset to capital ratio that a regulator would allow to increase or decrease and
why?
111. What was the primary motivation behind the creation of the 1988 Basel Accord?
112. What were the positive effects of the 1988 Basel Accord? What were its shortcomings?
113. Identify at least two problems a borrower would face if banks were not required to
disclose the information that they are currently required to make available.
114. Define the components of the CAMELS criteria and explain how a CAMELS rating is
calculated.
115. The CAMELS criteria to evaluate the health of banks by supervisors is not made public.
Make a case for one making this information public and a case for keeping it private.
116. What is meant by the problem of time consistency in the conduct of financial system
policy?
Essay Questions
117. Discuss the ramifications of the FDIC reducing deposit insurance limits to $25,000.
118. We saw in the text that regulations, specifically deposit insurance and the Basel Accord
(of 1988), can create moral hazard. Explain.
119. The FDIC used to charge all banks the same rate for insurance on deposits. From what
you have learned, what problems did this create for not only the FDIC but for well-run
banks?
120. Discuss the case for a "super-regulator" in the context of what you have learned about
"regulatory competition."
