Tutorial 1 Questions

TUTORIAL 1
AN OVERVIEW OF THE FINANCIAL SYSTEM
I. Review questions
1. What is the main function of financial markets?
2. Classify financial markets
3. List and distinguish the differences among financial instruments
4. Identify the differences among types of financial intermediaries (in terms of primary
liabilities and assets).
II. Multiple-choice questions

1. Economists group commercial banks, saving and loans associations, credit unions, mutual
funds, mutual savings banks, insurance companies, pension funds and finance companies
under the heading financial intermediaries. Financial intermediaries:
A. produce nothing of value and therefore a drain on society’s resources
B. provide a channel for linking between those who want to save and those who want to
spend
C. can hurt the performance of the economy
D. have been a source of slow and resistant financial innovation
2. What is the basic activity of banks?

A. To sell shares of corporations to the general public
B. To facilitate the transfer of money from savers to borrowers
C. To represent the interest of insurance companies
D. To ensure everyone who wants a loan gets one
E. To equate future consumption with current consumption
3. Banks, savings and loans associations, mutual savings banks and credit unions
A. are no longer important players in financial intermediation
B. have been adept at innovating in response to changes in regulatory environment
C. produce nothing of value and therefore a drain on society’s resources
D. since deregulation now provide services only to small depositors
4. Why are financial markets important to the health of the economy?

A. They channel funds from investors to savers
B. They identify and shut down inefficient firms
C. They eliminate the needs for financial intermediaries
D. They allow consumers to time their purchase better
5. These financial institutions are very small cooperative lending institutions organized
around a particular group: union members, employees of a firm and so forth. They acquire
funds from deposits called shares and primarily make consumer loans. They are:
A. Credit unions
B. Commercial banks
C. Savings and loan associations
D. Mutual fund
6. These financial intermediaries raise funds primarily by issuing checkable deposits, savings
deposits and time deposits. They then use these funds to make commercial, consumer and
mortgage loans, and to buy US government securities and municipal bonds. They are
A. Credit union
B. Commercial bank
C. Savings and loan
D. Mutual fund
7. These instruments are typically overnight loans between banks of their deposits at Federal
Reserve.
A. Commercial paper
B. Treasury bills
C. Repurchase agreement
D. Federal Funds
E. Banker’s acceptances
8. Short-term debt instruments issued by large banks and well-known corporations

A. Commercial paper
B. Treasury bills
D. Federal Funds
9. These instruments are effectively short-term loans (usually with maturity of less than two
weeks) for which Treasury bills serve as collateral, which the lender receives if the borrower
does not pay back the loan.
A. Commercial paper
B. Treasury bills
D. Federal Funds
10. A share of Microsoft common stock is:

A. a liability to the shareholder because it must be sold to realize a capital gain
B. an asset of Microsoft because it allows Microsoft to invest in capital equipment or
other companies
C. identical to a bond issued by Microsoft
D. an asset for its owner and a liability for Microsoft.
11. A share of common stock is a claim on a corporationʹs

A) debt.
B) liabilities.
C) expenses.
D) earnings and assets.
12. ___________ occurs when the potential borrowers who are the most likely to produce an
undesirable (adverse) outcome – the bad credit risks – are the ones who most actively seek
out a loan and are thus most likely to be selected.
A. Adverse selection
B. Asymmetric information
C. Moral hazard
D. Credit ratings
13. A situation where one party often does not know enough about the other party to make
accurate decisions
C. Moral hazard
D. Credit ratings
14. A situation where the borrower might engage in activities that are undesirable from the
lender’s point of view because they make it less likely that the loan will be paid back.
C. Moral hazard
D. Credit ratings
15. Equity holders are a corporationʹs ________. That means the corporation must pay
all of its debt holders before it pays its equity holders.
A) debtors
B) brokers
C) residual claimants
D) underwriters
16. A corporation acquires new funds only when its securities are sold in the
A) secondary market by an investment bank.
B) primary market by an investment bank.
C) secondary market by a stock exchange broker.
D) secondary market by a commercial bank.
17. Which of the following statements about financial markets and securities is true?
A) Many common stocks are traded over-the-counter, although the largest corporations
usually have their shares traded at organized stock exchanges such as the New York Stock
Exchange.
B) As a corporation gets a share of the brokerʹs commission, a corporation acquires new
funds whenever its securities are sold.
C) Capital market securities are usually more widely traded than shorter-term securities and
so tend to be more liquid.
D) Because of their short term to maturity, the prices of money market instruments tend to
fluctuate widely.
III. Practice exercises

Questions taken and adapted from chapter 2 (Mishkin, 2019)
1. Give at least three examples of a situation in which financial markets allow consumers to
better time their purchases.
2. If you suspect that a company will go bankrupt next year, which would you rather hold,
bonds issued by the company or equities issued by the company? Why?
3. Describe who issues each of the following money market instruments:

a. Treasury bills
b. Certificates of deposit
c. Commercial paper
d. Repurchase agreement
e. Fed funds
4. How does risk sharing benefit both financial intermediaries and private investors?
5. You have just purchased a 10-year, $1,000 par value bond. The coupon rate on this bond
is 8 percent annually, with interest being paid each 6 months. If you expect to earn a 10
percent yield on this bond, how much did you pay for it?
6. Callaghan Motors ‘bonds have 10 years remaining to maturity. Interest is paid annually,
they have a $1,000 par value, the coupon interest rate is 8%, and the yield to maturity is
9%. What is the bond’s current market price?
7. A bond has a $1,000 par value, 10 years to maturity, and a 7% annual coupon and sells
for $985.
a. What is its yield to maturity (YTM)?
b. Assume that the yield to maturity remains constant for the next 3 years. What will
the price be 3 years from today?

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TUTORIAL 1

AN OVERVIEW OF THE FINANCIAL SYSTEM

II. Multiple-choice questions

2. What is the basic activity of banks?

4. Why are financial markets important to the health of the economy?

8. Short-term debt instruments issued by large banks and well-known corporations

10. A share of Microsoft common stock is:

11. A share of common stock is a claim on a corporationʹs

III. Practice exercises

3. Describe who issues each of the following money market instruments:

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