4.4 Financial Sector Flashcards
(23 cards)
What is the role of financial markets?
- To facilitate saving
- To lend to businesses and individuals
- To facilitate the exchange of goods and services
- To provide forward markets in currencies and commodities
- To provide a market for equities
How do financial markets facilitate saving?
- provide somewhere for consumers and firms to store their funds
- savings are rewarded with interest payments
How do financial markets lend to businesses and individuals?
- transfer of funds between agents is aided by financial markets
How do financial markets facilitate the exchange of goods and services?
Provides a way that buyers and sellers can interact and transfer funds
How do financial markets provide forward markets in currencies and commodities?
Currency market: speculation of currency can determine value of future currencies
Commodity market: investors trade primary products and use future contracts to do so
What is a forward market?
An informal financial market where these contracts to future delivery are made
What is a forward market?
Informal financial market where contracts for future delivery are made
How do financial markets provide a market for equities (stocks)
Provide access to capital for firms and allow investors to own a part fo the market
What do stock markets involve the trade of?
Shares
What are five examples of market failure within financial markets?
- Asymmetric information
- externalities
- moral hazard
- speculation and market bubbles
- market rigging
Describe how asymmetric information played a part in the financial crisis
- high asset prices led to risky bank loans and mortgages
- borrowers had poor credit histories and defaulted on mortgages
- banks lost a lot of money as they were not aware of how risky loans were
Describe externalities in the financial market
Illiquidity
- caused by underprovision of liquidity in the banking model
- in 2008 contributed towards volatility and government intervention
Sytematic risk
- caused by the collapse of a bank
What is illiquidity
- refers to assets that cannot be sold easily without a loss in value
- normally due to insufficient investors willing to buy the asset
What is systematic risk?
Risk of damage of the economy or the financial market
- risk of the collapse to a bank
What is moral hazard?
- risk borrower does things that’s the lender would not seem desirable
How may moral hazard manifest in the financial market?
Banks may take more risks if they know the Bank of England can bail them out.
Financial crisis §
What is a market bubble?
- occurs when price of an asset predicted to rise significantly
- increases demand and price shoots up
- price suddenly falls and investors try to sell assets
- can lead to loss of confidence and economic decline
What is market rigging?
- collusion
- libor scandal: banks were inflating or deflating interest rates to make profit from trade
What is a central bank?
Bank that manages the currency, money supply and interest rates in an economy
Describe the role of central bank within an economy
- Implementation of monetary policy
- Banker to the government
- Banker to banks
- Role of regulation of the banking industry
Describe the role of the CB as a banker to the government
- collects payments to the government and makes payments on behalf of government
- operates deposit accounts of the government, manages public debt and loans
- advisement on finance
Describe the role of the central bank as a banker to the banks
Lender of last resort
- lends money to increase supply of liquidity when it is low
- occurs when institution is risky or close to collapsing
