2. Financial Context

Question 1

Financial system

Answer 1

A marketplace mediating between those with money and are looking for a return on their wealth. Receiving cash vs. receiving promises

Question 2

Main functions of the financial system

Answer 2

1. Mobilizing resources
2. Transferring resources (ability to make payments to another firm)
3. Allow firms, financial intermediaries, and individuals to manage risks
4. Pooling of savings (Allow investments to reach a required size)
5. The transfer of resources to investors

Question 3

An efficient financial system requires:

Answer 3

1. Sound public finances and public debt management
2. Stable monetary arrangements
3. A variety of banks (domestic, international orientations, both)
4. Well-functioning securities markets
5. A central bank that stabilizes domestic finances and manages international relations.

Question 4

Modern banks are expected to:

Answer 4

1. Receive deposits from their consumers
2. Maintain current accounts for them
3. Provide advances in forms of loans/ overdraft
4. Manage payments on behalf of their consumers by collecting and paying bills

Question 5

Commercial bank

Answer 5

Take deposits, lend money, clear accounts

Question 6

Merchant/ Investment banks

Answer 6

Focus on arranging the long-term financing of assets and commerce

Question 7

Securities

Answer 7

The promises that investors and business people trade across time.

Question 8

What do securities markets do?

Answer 8

Increase liquidity and reduce risks; encourage fair dealing, eliminate asymmetries of information.

Question 9

Primary securities

Answer 9

Securities are sold to the public on behalf of the company; proceeds to issuing company; controlled by investment banks

Question 10

Secondary securities

Answer 10

Setting for the purchase and sale of securities after they have been issued

Question 11

Bonds

Answer 11

Debt securities; represent loans, pay interest to bondholders

Question 12

Stocks

Answer 12

Represent shares of ownership; pay dividends to shareholder

Question 13

Who had the greatest influence on the creation of the financial system?

Answer 13

Alexander Hamilton

Question 14

Monetary policy

Answer 14

The Federal Reserve (An independent agency): Federal funds and buy or sell government bonds

Question 15

Fiscal policy

Answer 15

Congress and Administration (Federal Government): Expected to change the aggregate demand for goods and services

Question 16

To raise aggregate demand directly:

Answer 16

Government increases purchases, tax the same

Question 17

To raise aggregate demand indirectly:

Answer 17

Government cuts taxes or increases transfer payments, leading to increases in people’s disposable income.

Question 18

Contractionary policies with examples

Answer 18

Economic strategies meant to slow the economy by reducing the money supply and preventing inflation. Examples: Selling company bonds, raising target interest rate

Question 19

Expansionary policies with examples

Answer 19

Stimulates the economy and prevents or reverses a recession. Examples: increasing government spending, decreasing taxes

Question 20

GDP

Answer 20

Gross Domestic Product: Total national wealth (goods produced and services provided) during a period of time.

Question 21

Equation of GDP

Answer 21

GDP = C + G + I + NX
C: All private consumption/ consumer spending in the nation’s economy
G: Sum of government spending
I: Investments (business)
NX: Exports - Imports

Question 22

Equation of Wealth

Answer 22

Wealth = Focus + (Stoicism * Time * Diversification)

Question 23

Recession

Answer 23

Two consecutive quarters of decreasing GDP

Question 24

According to John Kenneth Galbraith, about Financial Euphoria:

Answer 24

1. We are less likely to become victims of a Financial Euphoria these days than we were in the past because we are more educated.
2. Financial Euphoria can be prevented with stronger legislation.
3. Many believe: people who are smart are rich.