Question 1

The Global Legal Settlement includes what key element?

Accepted Answer

A)  It directly reduces conflicts of interest.
B)  It provides incentives for investment banks to not exploit conflicts of interest.
C)  It has measures to improve the quality for information in financial markets.
D)  All of the above.E) B) and C)
F) All of the above

Question 2

During the 2007-2009 financial crisis, housing prices began to fall and subprime mortgages began to default. Which of the following statements is true about the rating of subprime mortgage products?

Accepted Answer

A)  The rating agencies were way ahead of the market, giving many of the subprime products junk ratings from the start.
B)  Rating agencies were not involved. Subprime mortgages could not be structured, by law.
C)  Many AAA-rated subprime products had to be downgraded over and over again until they reached junk status.
D)  None of the above are true.E) None of the above
F) B) and C)

Question 3

(I) In the United States, nonbank loans are the most important source of external funds for nonfinancial businesses. (II) In Germany and Japan, issuing stocks and bonds is the most important source of external for nonfinancial businesses.

Accepted Answer

A)  (I) is true, (II) false.
B)  (I) is false, (II) true.
C)  Both are true.
D)  Both are false.E) B) and C)
F) A) and D)

Question 4

In the used car market, asymmetric information leads to the lemons problem because the price that buyers are willing to pay will

Accepted Answer

A)  reflect the highest quality of used cars in the market.
B)  reflect the lowest quality of used cars in the market.
C)  reflect the average quality of used cars in the market.
D)  none of the above.E) C) and D)
F) None of the above

Question 5

Property that is pledged to the lender in the event that a borrower cannot make his or her debt payment is called

Accepted Answer

A)  points.
B)  interest.
C)  collateral.
D)  good faith money.E) A) and D)
F) A) and C)

Question 6

The principal-agent problem is an example of the adverse selection problem that can result from asymmetric information.

Accepted Answer

A) True 
 B)False

Question 7

Of the following sources of external finance for American nonfinancial businesses, the most important is

Accepted Answer

A)  loans from banks.
B)  stocks.
C)  bonds and commercial paper.
D)  nonbank loans.E) A) and D)
F) A) and B)

Question 8

The Sarbanes-Oxley Act of 2002 dealt with conflicts of interest in

Accepted Answer

A)  investment banks.
B)  accounting firms.
C)  credit-rating agencies.
D)  all of the above.E) B) and C)
F) B) and D)

Question 9

Since firms issuing new securities pay to have these securities rated, the credit-rating agencies have incentive to ________ to attract more business.

Accepted Answer

A)  give favorable ratings
B)  give impartial ratings
C)  lower the fees they charge
D)  practice spinningE) A) and C)
F) A) and B)

Question 10

Distinguish between adverse selection and moral hazard.

Accepted Answer

The answer of Distinguish between adverse selection and moral hazard....

Question 11

The problem of adverse selection helps to explain why direct finance is more important than indirect finance as a source of business finance.

Accepted Answer

A) True 
 B)False

Question 12

The concept of adverse selection helps to explain why indirect finance is more important than direct finance as a source of business finance.

Accepted Answer

A) True 
 B)False

Question 13

A debt contract is said to be incentive compatible if

Accepted Answer

A)  the borrower's net worth reduces the probability of moral hazard.
B)  restrictive covenants limit the type of activities that can be undertaken by the borrower.
C)  both A and B of the above occur.
D)  neither A nor B of the above occur.E) A) and D)
F) A) and B)

Question 14

If bad credit risks are the ones who most actively seek loans and, therefore, receive them from financial intermediaries, then financial intermediaries face the problem of

Accepted Answer

A)  moral hazard.
B)  adverse selection.
C)  free-riding.
D)  costly state verification.E) A) and B)
F) B) and C)

Question 15

A key finding of the economic analysis of financial structure is that

Accepted Answer

A)  the existence of the free-rider problem for traded securities helps to explain why banks play a predominant role in financing the activities of businesses.
B)  while free-rider problems limit the extent to which securities markets finance some business activities, the majority of funds going to businesses are channeled through securities markets.
C)  given the great extent to which securities markets are regulated, free-rider problems are not of significant economic consequence in these markets.
D)  economists do not have a very good explanation for why securities markets are so heavily regulated.E) A) and B)
F) A) and C)

Question 16

Adverse selection

Accepted Answer

A)   is a problem created by asymmetrical information after the transaction.
B)  can be solved by eliminating asymmetrical information.
C)  occurs when people who do not pay for information take advantage of the information other people have to pay for.
D)  all of the above.E) B) and C)
F) C) and D)

Question 17

A financial institution can achieve cost savings in its credit card operations if it increases the number of cardholders. This is an example of economies of

Accepted Answer

A)  scope.
B)  scale.
C)  complexity.
D)  information.E) A) and C)
F) A) and B)

Question 18

Because of the lemons problem in the used car market, the average quality of the used cars offered for sale will be ________, which gives rise to the problem of ________.

Accepted Answer

A)  low; moral hazard
B)  low; adverse selection
C)  high; moral hazard
D)  high; adverse selectionE) A) and C)
F) C) and D)

Question 19

Which of the following best explains the recent decline in the role of financial intermediaries?

Accepted Answer

A)  Private production and sale of information
B)  Government regulation to increase information
C)  Improvements in information technology
D)  None of the above can explain the recent declineE) C) and D)
F) B) and D)

Question 20

Investment banks are guilty of conflict of interest when they

Accepted Answer

A)  pressure their analysts to produce research favorable to their client firms.
B)  permit executives of client firms to alter analysts' research on their firms.
C)  prohibit analysts from making negative or controversial comments about client firms.
D)  all of the above.E) A) and C)
F) A) and B)

Exam 7: Why Do Financial Institutions Exist

The concept of adverse selection helps to explain why indirect finance is more important than direct finance as a source of business finance.

Correct AnswerverifiedShow Answer

Property that is pledged to the lender in the event that a borrower cannot make his or her debt payment is called

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Which of the following best explains the recent decline in the role of financial intermediaries?

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The principal-agent problem is an example of the adverse selection problem that can result from asymmetric information.

Correct AnswerverifiedShow Answer

Adverse selection

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A financial institution can achieve cost savings in its credit card operations if it increases the number of cardholders. This is an example of economies of

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Investment banks are guilty of conflict of interest when they

Correct AnswerverifiedShow Answer

Of the following sources of external finance for American nonfinancial businesses, the most important is

Correct AnswerverifiedShow Answer

Since firms issuing new securities pay to have these securities rated, the credit-rating agencies have incentive to ________ to attract more business.

Correct AnswerverifiedShow Answer

The problem of adverse selection helps to explain why direct finance is more important than indirect finance as a source of business finance.

Correct AnswerverifiedShow Answer

In the used car market, asymmetric information leads to the lemons problem because the price that buyers are willing to pay will

Correct AnswerverifiedShow Answer

A debt contract is said to be incentive compatible if

Correct AnswerverifiedShow Answer

(I) In the United States, nonbank loans are the most important source of external funds for nonfinancial businesses. (II) In Germany and Japan, issuing stocks and bonds is the most important source of external for nonfinancial businesses.

Correct AnswerverifiedShow Answer

If bad credit risks are the ones who most actively seek loans and, therefore, receive them from financial intermediaries, then financial intermediaries face the problem of

Correct AnswerverifiedShow Answer

A key finding of the economic analysis of financial structure is that

Correct AnswerverifiedShow Answer

During the 2007-2009 financial crisis, housing prices began to fall and subprime mortgages began to default. Which of the following statements is true about the rating of subprime mortgage products?

Correct AnswerverifiedShow Answer

The Global Legal Settlement includes what key element?

Correct AnswerverifiedShow Answer

Distinguish between adverse selection and moral hazard.

Correct AnswerverifiedShow Answer

The Sarbanes-Oxley Act of 2002 dealt with conflicts of interest in

Correct AnswerverifiedShow Answer

Because of the lemons problem in the used car market, the average quality of the used cars offered for sale will be ________, which gives rise to the problem of ________.

Correct AnswerverifiedShow Answer

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Because of the lemons problem in the used car market, the average quality of the used cars offered for sale will be , which gives rise to the problem of .

Correct Answer
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