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Financial Institutions and Markets
Assignment- Week 1
TYPE OF QUESTION: MCQ/MSQ
Number of questions: 20 Total mark: 20 X 1 = 20
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QUESTION 1:
Which of the following are functions of financial system?
Statement I Provide avenues for managing the risks faced by the market
participants
Statement II Provides financial capital for short-term capital formation for the
government and business organizations
Statement III Creates different investment opportunities for the investors to
maximize their return
a. Only I and II
b. Only I and III
c. Only II and III
d. I, II and III
Correct Answer: b. Only I and III
Detailed Solution:
It provides the financial capital for long-term capital formation for the government and business
organizations
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QUESTION 2:
State whether the following statement is true or false:
“Banks are "creators" of credit, and non-banking institutions are "purveyors" of credit”
a. True
b. False
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Correct Answer: a. True
Detailed Solution:
According to Sayers banks are "creators" of credit, and non-banking institutions are "purveyors"
of credit
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QUESTION 3:
Which of the following are true about financial system?
Statement I Financial systems are made of different intricate and complex models
that link financial institutions and markets to provide financial services
for various stakeholders operating in the financial system like
depositors, lenders, borrowers, government and others
Statement II The financial system is concerned about money, credit, and finance
Statement III The financial system deals with the financial transactions and the
exchange of money between savers, investors, lenders and borrowers
a. Only I and II
b. Only I and III
c. Only II and III
d. I, II and III
Correct Answer: d. I, II and III
Detailed Solution:
The financial system deals with the financial transactions and the exchange of money between
savers, investors, lenders and borrowers
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QUESTION 4:
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Which of the following are true about financial intermediary institutions?
Statement I They intermediate between savers and investors
Statement II They lend money as well as mobilise savings
Statement III All banking institutions are intermediaries
a. Only I and II
b. Only I and III
c. Only II and III
d. I, II and III
Correct Answer: d. I, II and III
Detailed Solution:
Intermediaries intermediate between savers and investors; They lend money as well as mobilise
savings; Their liabilities are towards the ultimate savers, while their assets are from the investors
or borrowers. All banking institutions are intermediaries
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QUESTION 5:
State whether the following statement is true or false:
“Equilibrium is established when the expected demand for funds (credit) for short-term & long-
term investment matches with the planned supply of funds generated out of savings and credit
creation”
a. True
b. False
Correct Answer: a. True
Detailed Solution:
Equilibrium is established when the expected demand for funds (credit) for short-term & long-
term investment matches with the planned supply of funds generated out of savings and credit
creation
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QUESTION 6:
Which among the following are determinants of supply of funds in the financial markets?
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a. Level of current and expected income of household sector
b. Desire to provide for old age, family members, contingencies
c. The demand for consumer durables
d. Investment in housing
Correct Answer: a, b
a. Level of current and expected income of household sector
b. Desire to provide for old age, family members, contingencies
Detailed Solution:
Determinants of Supply of Funds:
• Aggregate savings by the household sector, business sector and the government sector
• Level of current and expected income
• Cyclical changes in income, age wise variations in income, distribution of income in the
economy, degree of certainty of income
• Wealth
• Inflation
• Desire to provide for old age, family members, contingencies
• Rate of interest
• Availability of savings media with preferred investment characteristics
• Development of banks and other financial institutions
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QUESTION 7:
Which among the following are determinants of demand of funds in the financial markets?
a. Aggregate savings by the household sector, business sector and the government sector
b. Availability of savings media with preferred investment characteristics
c. Development of banks and other financial institutions
d. Investment in housing
Correct Answer: d. Investment in housing
Detailed Solution:
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Determinants of Demand for Funds:
Investment in fixed and circulating (working) capital
• The current level of capital stock
• Capacity utilisation
• The desired capital stock, which is influenced by business expectations
(prospects) regarding future demand for goods (sales), prices, Government
policies, and profitability
• Availability of internal funds
• Cost of funds
• Technological changes.
Demand for consumer durables
The demand for consumer durables depends upon (a) changes in tastes and preferences,
(b) fashion, (c) demonstration effect, and (d) cost of funds.
Investment in housing
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QUESTION 8:
Which of the following are true about Financial Market Efficiency?
Statement I The ultimate focus of the efficiency in financial markets is on the non-
wastefulness of factor use and the allocation of factors to the most
socially productive purposes
Statement II The market in which the price for any security effectively represents
the expected net present value of all future profits
Statement III Buying or selling the stock should, on average, return you only a fair
measure of return for the associated risk
a. Only I and II
b. Only I and III
c. Only II and III
d. I, II and III
Correct Answer: d. I, II and III
Detailed Solution:
The ultimate focus of the efficiency in financial markets is on the non-wastefulness of factor use
and the allocation of factors to the most socially productive purposes
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The market in which the price for any security effectively represents the expected net present
value of all future profits
Buying or selling the stock should, on average, return you only a fair measure of return for the
associated risk.
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QUESTION 9:
Which among the following are correct Conditions for Efficient Market?
I The financial assets are infinitely divisible
II The participants in markets have homogeneous expectations
III Free entry and exit by market players must be uninhibited
a. Only I
b. Only II
c. Only III
d. Only I and II
Correct Answer: c. Only III
Detailed Solution:
Conditions for Efficient Market
• A large number of competing profit-maximizing participants analyze and value
securities, each independently of the others
• Active participation in the market
• Individuals can not affect the market prices
• Information must be free
• Free entry and exit by market players must be uninhibited
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QUESTION 10:
Which among the following statements are true about Efficient Market Hypothesis (EMH)?
I The current prices of securities reflect all information about the security
II New information regarding securities comes to the market in a random
fashion
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III The expected returns implicit in the current price of a security should
reflect its risk
a. Only I
b. Only I and II
c. Only III and I
d. I II and III
Correct Answer: d. I II and III
Detailed Solution:
Efficient Market Hypothesis (EMH)
• The current prices of securities reflect all information about the security (Random Walk
Hypothesis)
• New information regarding securities comes to the market in a random fashion
• Profit-maximizing investors adjust security prices rapidly to reflect the effect of new
information. The expected returns implicit in the current price of a security should reflect
its risk
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QUESTION 11:
Which of the following is NOT an assumption for perfect financial markets:
I The financial assets are indivisible
II There are no transactions costs
III There are no taxes
a. Only I
b. Only II
c. Only III
d. Only II and III
Correct Answer: a. Only I
Detailed Solution:
Perfect financial market assumptions
• Large number of savers and investors operate in markets
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• Savers and investors are rational
• All operators in the market are well-informed and information is freely available to all of
them
• There are no transactions costs
• The financial assets are infinitely divisible
• The participants in markets have homogeneous expectations
• There are no taxes
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QUESTION 12:
Under strong form of EMH, no one should be able to consistently achieve positive abnormal
returns.
a. True
b. False
Correct Answer: a. True
Detailed Solution:
In strong form of EMH stock prices fully reflect all information from public and private sources.
This implies that no group of investors should be able to consistently derive above-average risk-
adjusted rates of return
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QUESTION 13:
The higher this ratio the greater the financial development because it indicates the extent of
monetisation and the size of exchange economy in the country:
a. The ratio of money to national income
b. The ratio of primary issues to the physical capital formation
c. The ratio of total issues of primary and secondary claims to national income
d. The ratio of financial assets to physical assets in the economy
Correct Answer: a. The ratio of money to national income
Detailed Solution:
The ratio of money to national income: the higher this ratio the greater the financial development
because it indicates the extent of monetisation and the size of exchange economy in the country
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QUESTION 14:
Which of the following is an indicator of access to Financial Institutions?
a. Non-financial corporate bonds to total bonds
b. Investments financed by equity or stock sales
c. Bank Z-score
d. Working capital financed by banks
Correct Answer: d. Working capital financed by banks
Detailed Solution:
indicators of access to Financial Institutions:
• Bank branches per 100000 adults
• ATMs per 100000 adults
• Working capital financed by banks
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QUESTION 15:
Which of the following is an indicator of the efficiency of Financial Markets?
a. Stock market turnover ratio
b. Stock market capitalization to GDP
c. Stock market total value traded to GDP
d. International debt issues to GDP
Correct Answer: a. Stock market turnover ratio
Detailed Solution:
The indicator of efficiency of the Financial Markets : Stock market turnover ratio (stocks traded
to capitalization)
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QUESTION 16:
The ratio of Outstanding domestic public debt securities to GDP is an indicator of:
a. Efficiency of Financial Markets
b. Efficiency of Financial Markets
c. Depth of Financial Markets
d. Stability of Financial Institutions
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Correct Answer: c. Depth of Financial Markets
Detailed Solution:
The ratio of Outstanding domestic public debt securities to GDP is an indicator of the Depth of
Financial Markets. Other indicators include: Stock market capitalization to GDP, Stock market
total value traded to GDP, International debt issues to GDP, Outstanding domestic private debt
securities to GDP
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QUESTION 17:
Which of the following statements are true about the Prior Savings Theory?
Statement I Saving as a prerequisite or a determinant of investment
Statement II It is a theory of the impact of financial development on savings and
investment
Statement III The theory suggests a policy of reasonably high positive real interest
rates to encourage savings by the public
a. Only I and II
b. Only I and III
c. Only II and III
d. I, II and III
Correct Answer: d. I, II and III
Detailed Solution:
Prior Savings Theory:
• Saving as a prerequisite or a determinant of investment
• It is averse to inflation, it advocates control of inflation
• Suggests a policy of reasonably high positive real interest rates to encourage savings by
the public
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QUESTION 18:
Change in inflation changes the income distribution in favour of profit earners which ultimately
leads to an increase in the savings. This is known as:
a. Portfolio Shift Effect
b. Income Distribution Effect
c. Inflation Tax Effect
d. Profit Sharing Effect
Correct Answer: b. Income Distribution Effect
Detailed Solution:
Inflation changes income distribution in favour of profit earners, which would lead to increase in
savings. This is known as Income Distribution Effect.
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QUESTION 19:
______________ Theory believes in the neutrality of money in the growth process
a. Theory of Forced Saving
b. Prior Saving Theory
c. Financial Liberalization Theory
d. Financial Regulation Theory
Correct Answer: b. Prior Saving Theory
Detailed Solution:
The Prior Savings Theory believes in the neutrality of money in the growth process.
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QUESTION 20:
_____________ indicates how far investment has been financed by direct issues to the savers by
the investing sectors.
a. Intermediation Ratio
b. Finance Ratio
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c. New Issue Ratio
d. Financial Inter-relation Ratio
Correct Answer: c. New Issue Ratio
Detailed Solution:
New Issue Ratio (NIR): the ratio of primary issues to the physical capital formation which indicates
how far investment has been financed by direct issues to the savers by the investing sectors.
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