Question

9. Explain Denomination Intermediation performed by Financial Institutions in general terms.

10. Explain and/or define this type of risk: Credit (Default) risk

11. Identify and/or define this type of risk: Insolvency risk

12. Explain how the 1933 Glass-Steagall Act changed the marketplace in the 1930s.

13. Explain the implication of an inverse yield curve (downward sloping yield curve).

14. Which segment of the market is the main net demander of loanable funds?

Answer 1

9.

Denomination intermediation takes place when intermediaries pool in small savings from individuals and provide large loans mainly to corporation and governments.A denomination is a unit of value given to physical financial instruments like coins and notes and other financial instruments that maintain set values. Denomination intermediation refers to investors acquiring small options of assets that are vended in big denominations then sell them in large quantities only.

10.

Credit risk is the possibility of a loss resulting from a borrower's failure to repay a loan or meet contractual obligations. Traditionally, it refers to the risk that a lender may not receive the owed principal and interest, which results in an interruption of cash flows and increased costs for collection. Excess cash flows may be written to provide additional cover for credit risk. When a lender faces heightened credit risk, it can be mitigated via a higher coupon rate, which provides for greater cash flows.

11.

Insolvency risk is a term for when an individual or company can no longer meet their financial obligations to lenders as debts become due. Before an insolvent company or person gets involved in insolvency proceedings, they will likely be involved in informal arrangements with creditors, such as setting up alternative payment arrangements. Insolvency can arise from poor cash management, a reduction in cash inflow, or an increase in expenses.

12.

In 1933, in the wake of the 1929 stock market crash and during a nationwide commercial bank failure and the Great Depression, two members of Congress introduced an act, known today as the Glass-Steagall Act (GSA), that would separate investment and commercial banking activities.

At the time, improper banking activity–the overzealous commercial bank involvement in stock market investment–was deemed the main culprit of the financial crash. It was believed that commercial banks took on too much risk with depositors' money.

13.

A yield curve inversion has the greatest impact on fixed-income investors. In normal circumstances, long-term investments have higher yields; because investors are risking their money for longer periods of time, they are rewarded with higher payouts. An inverted curve eliminates the risk premium for long-term investments, allowing investors to get better returns with short-term investments.

14.

firms looking for expansion are main demander for loaning funds

When a firm decides to expand its capital stock, it can finance its purchase of capital in several ways. It might already have the funds on hand. It can also raise funds by selling shares of stock, as we discussed in a previous module. When a firm sells stock, it is selling shares of ownership of the firm. It can borrow the funds for the capital from a bank. Another option is to issue and sell its own bonds. A bond is a promise to pay back a certain amount at a certain time. When a firm borrows from a bank or sells bonds, of course, it accepts a liability—it must make interest payments to the bank or the owners of its bonds as they come due.