Chapter 9
ANSWERS TO QUESTIONS
1. Why might a bank be willing to borrow funds from other banks at a higher rate than the rate
at which it can borrow from the Fed?
2. Rank the following bank assets from most to least liquid:
a. Commercial loans
b. Securities
d. Physical capital
3. The bank you own has the following balance sheet:
Assets
Liabilities
Reserves
$75 million
Deposits
$500 million
Loans
$525 million
Bank capital
$100 million
If the bank suffers a deposit outflow of $50 million with a required reserve ratio on deposits of
10%, what actions should you take?
The $50 million deposit outflow means that reserves fall by $50 million to $25 million. Since
4. If a deposit outflow of $50 million occurs, which balance sheet would a bank rather have
initially, the balance sheet in Question 3 or the following balance sheet? Why?
Assets
Liabilities
Reserves
$100 million
Deposits
$500 million
Loans
$500 million
Bank capital
$100 million
The bank would rather have the balance sheet shown in this problem, because after it loses
$50 million due to deposit outflow, the bank would still have excess reserves of $5 million:
$50 million in reserves minus required reserves of $45 million (10% of the $450 million of
5. Why has the development of overnight loan markets made it more likely that banks will hold
fewer excess reserves?
6. 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 lend out? Why or why not? What options are available that will enable you to
provide the funds your customer needs?
7. 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?
8. If a bank is falling short of meeting its capital requirements by $1 million, what three things
can it do to rectify the situation?
9. Why do equity holders care more about ROE than about ROA?
10. If a bank doubles the amount of its capital and ROA stays constant, what will happen to
ROE?
11. What are the benefits and costs for a bank when it decides to increase the amount of its bank
capital?
12. Why is being nosy a desirable trait for a banker?
13. A bank almost always insists that the firms it lends to keep compensating balances at the
bank. Why?
monitor the activities of a borrowing firm so that it can prevent the firm from taking on too
14. If the president of a bank told you that the bank was so well run that it has never had to call
15. “Because diversification is a desirable strategy for avoiding risk, it never makes sense for a
bank to specialize in making specific types of loans.” Is this statement true, false, or
uncertain? Explain your answer.
16. If you are a banker and expect interest rates to rise in the future, would you prefer to make
short-term loans or long-term loans?
17. “Bank managers should always seek the highest return possible on their assets.” Is this
statement true, false, or uncertain? Explain your answer.
18. Why has noninterest income been growing as a source of bank operating income?
ANSWERS TO APPLIED PROBLEMS
19. Using the t-accounts of the first national bank and the second national bank given in this
chapter, describe what happens when jane brown writes a $50 check on her account at the
first national bank to pay her friend Joe Green, who in turn deposits the check in his account
at the second national bank.
First National Bank
Liabilities
Checkable Deposits
Second National Bank
Liabilities
Checkable Deposits $50
20. What happens to reserves at the First National Bank if one person withdraws $1,000 of cash
and another person deposits $500 of cash? Use T-accounts to explain your answer.
First National Bank
Liabilities
Checkable Deposits
21. NewBank started its first day of operations with $6 million in capital. A total of $100 million
in checkable deposits is received. The bank makes a $25 million commercial loan and lends
another $25 million in mortgage loans. If required reserves are 8%, what does the bank
balance sheet look like?
22. 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 T-bills
does NewBank purchase? What does the balance sheet look like?
Assets
Liabilities
Required Reserves
$ 8 million
Checkable Deposits
$100 million
Excess Reserves
$ 3 million
Bank Capital
$ 6 million
T-bills
$45 million
Loans
$50 million
Assets
Liabilities
Required Reserves
$ 8 million
Checkable Deposits
$100 million
Excess Reserves
$48 million
Bank Capital
$ 6 million
Loans
$50 million
23. X-Bank reported an ROE of 15% and an ROA of 1%. How well capitalized is this bank?
EM
24. Suppose you are the manager of a bank whose $100 billion of assets have an average
duration of four years and whose $90 billion of liabilities have an average duration of six
years. Conduct a duration analysis for the bank, and show what will happen to the net worth
of the bank if interest rates rise by 2 percentage points. What actions could you take to
reduce the bank’s interest-rate risk?
The 4 years) while the liabilities
fall in value 6 years). Because the liabilities fall in
25. Suppose you are the manager of a bank that has $15 million of fixed-rate assets, $30 million
of rate-sensitive assets, $25 million of fixed-rate liabilities, and $20 million of rate-sensitive
liabilities. Conduct a gap analysis for the bank, and show what will happen to bank profits if
interest rates rise by 5 percentage points. What actions could you take to reduce the bank’s
interest-rate risk?
ANSWERS TO DATA ANALYSIS PROBLEMS
1. Go to the St. Louis Federal Reserve FRED database, and find data for all commercial banks
on total liabilities (TLBACBM027SBOG), total deposits (DPSACBM027SBOG), and residual
of assets less liabilities (RALACBM027SBOG).
2. Go to the St. Louis Federal Reserve FRED database, and find data for all commercial banks
on total assets (TLAACBM027SBOG), U.S. government and agency securities held
real estate loans (REALLN), consumer loans (CONSUMER), interbank loans
(IBLACBM027S-BOG), other loans (OLLACBM027SBOG), and other assets
(OATACBM027SBOG). Use the most recent month of data available across all indicators.
a. What is the total amount of loans held by banks? What is this number as a percentage of
total bank assets?
b. What is the total amount of securities held by banks? What is this number as a
percentage of total bank assets?
For April 2014, total securities held are $1854.9 Bil. + $914.2 Bil = $2769.2 Billion,
representing 19.2% of total assets held by banks.
c. What is the total amount of reserves and cash items? What is this number as a percentage
of total bank assets?
April 2014, $Bil.
C&I Loans
1686.4
Real Estate Loans
3563.6
Consumer Loans
1157.5
Interbank Loans
110.7
Other Loans
1165.8
Total Loans
7684.0