1. You are the owner of Bank of Pecunia, which currently has the following balance sheet:...

1. You are the owner of Bank of Pecunia, which currently has the following balance sheet: Assets Liabilities Reserves $3,600 Deposits $16,000 Loans $14,400 Bank Capital $2,000 a. Assume a 10% reserve requirement. If there is a sudden withdrawal of deposits of $2,400, what problem will your bank be facing as a result? Draw the new balance sheet (after the withdrawal) and be specific, including the extent (i.e. $ value) of your problem, for full credit. b. Explain two (2) options available to you (as the bank owner) to deal with the resulting problem. What is typically the best option available to banks for dealing with this type of problem? Explain. c. Assume that $14,400 of Bank of Petunia’s assets are interest-rate sensitive (i.e. variable interest rate), and that $16,000 of its liabilities are interest-rate sensitive (i.e. variable interest rate). Conduct a gap analysis for the bank, and show what will happen to bank profits if interest rates rise by 3 percentage points. Show your work and briefly explain.

Expert Solution

Assets		Liabilities
Reserves	3600	Deposits	16000
Loans	14400	Bank Capital	2000
	18000		18000

If there is sudden withdrawal of 2400, bank will have to pay that through reserves

Assets		Liabilities
Reserves	1200	Deposits	13600
Loans	14400	Bank Capital	2000
	15600		15600

a) Problem will be with reserve ratio of 1200/13600 = 8.82%

This problem can be solved using 2 ways

1. Bank Capital - Introducing new bank capital to increase the reserve ratio to 10%

2. Loan from central bank - Taking loan from central bank to maintain reserve requirement of 10%

b) Best approach could be second. Taking loan from central bank at a lower rate can help them maintain the reserve requirement.

Deposits and assets are interest rate sensitive.

Deposits of 16000

Assets of 14400

Gap (Rate sensitive Assets - Rate sensitive Liabilities) = 14400 - 16000 = -1600

Bank will suffer a loss of Gap * 3% due to increase in interest rate. i.e. 1600*3% = 48

Rahul Sunny answered 2 years ago

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