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EDEXCEL Economics B Paper 1 > 4.5 Risk in the Financial Sector > Flashcards

4.5 Risk in the Financial Sector Flashcards

1
Q

Define shock

A

Unexpected or unpredictable events that have a major effect on the economy

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2
Q

Define uncertainty

A

An unpredictable change where there is no way to calculate its likelihood

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3
Q

Define risk

A

When changes are expected so the probability of their occurrence can be calculated using past data

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4
Q

Define supply-side shock

A

An impact upon the provision of a good or service that will impact price

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5
Q

Define demand-side shock

A

An impact on the consumption of a good or service that will effect price

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6
Q

What is a forward market?

A

An agreement to buy a foreign currency at a fixed exchange rate on a future date

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7
Q

Give 3 advantages of using forward markets for a business

A
  • Don’t lose money on imports with a depreciation of the domestic currency
  • Allows for better future planning and reduced uncertainty
  • Protects them in the case of a shock
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8
Q

Give a possible disadvantage of a business using forward markets

A

Appreciation of the domestic currency will see them paying more than necessary for imports

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9
Q

Define insurance

A

A contract between 2 parties who look to provide financial protection against any losses incurred by a business

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10
Q

What is meant by an insurance premium?

A

The cost of the insurance to the firm

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11
Q

What is meant by an insurance payout?

A

They money the firm would receive in the case of having to honour the contract

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12
Q

Give 2 advantages of business insurance to a firm

A
  • Reduces risk

- Provides business confidence to encourage investors

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13
Q

Give 3 potential disadvantages of having business insurance for a firm

A
  • Opportunity cost
  • Premiums can change and cause uncertainty
  • Individuals can claim against a business
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14
Q

How does the financial sector mobilise savings for lending to firms?

A

They use savings and channel them to the firms as they are financial intermediaries

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15
Q

What is the role of an investment bank?

A

To serve big businesses and big projects

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16
Q

What is the role of a building society?

A

To offer mortgages

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17
Q

Why are building societies the safest banks to save with?

A

They only lend what they have depositied

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18
Q

What is the role of retail banks?

A

To loan to individuals and small businesses

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19
Q

How does the financial sector create jobs in working capital (people who don’t get paid until a job is done)

A

They provide overdrafts to help them pay their costs before they get paid

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20
Q

How have advancements in technology helped the financial sector with ease of trade? (3)

A
  • Credit & Debit cards make trade easier
  • Payment systems are faster
  • The cost of exchanges are lowered
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21
Q

Define creditor risk

A

The risk of providing a loan to a bank

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22
Q

How is creditor risk assessed by banks? (2)

A
  • Credit ratings

- Banks sharing information between each other

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23
Q

What does the term ‘hedging’ mean?

A

Using forward markets

24
Q

How do the financial sector help in currencies and foreign commodities?

A

Can provide forward markets

25
Q

What is meant by ‘providing equities’?

A

Trading in shares of PLCs

26
Q

How do the financial sector provide a market for equities?

A

Banks act as stockbrokers and trade shares

27
Q

Give the 4 roles of the Central Bank

A
  • Implement Monetary Policy
  • Act as a bank to the government
  • Be the ‘lender of last resorts’
  • To regulate the financial system
28
Q

What is the role of the MPC? (Monetary Policy Committee)

A

To set the base interest rate

29
Q

How many members are there of the MPC?

A

9

30
Q

What is the main factor in deciding the interest rate?

A

Inflation target of 2%

31
Q

What are the 2 regulatory bodies under the Bank of England?

A

Financial Policy Committee (FPC)

Prudential Regulation Authority (PRA)

32
Q

What do the FPC (Financial Policy Committee) do to regulate the banks?

A

Provide a more overall and long-term vision of the banking industry

33
Q

What do the PRA (Prudential Regulation Authority) do to regulate the banks?

A

Give a more specific assessment of individual banks

34
Q

How do the PRA assess a bank’s stability?

A

Do a stress test to reveal any problems

35
Q

What is meant by the Bank of England being a ‘Lender of last Resorts’?

A

They guarantee to lend to banks that are temporarily unable to meet their customers needs to withdraw money

36
Q

What do the Bank of England not do as a ‘Lender of Last Resorts’?

A

Do not rescue large banks that are going under

37
Q

Give an evaluation point of the strength of the PRA

A

Many members of the PRA are former bankers and will still have links with banks and could not regulate properly

38
Q

How can being a ‘Lender of Last Resorts’ be problematic for the BOE?

A

Can provide a safety net that allows banks to be more reckless in their policies

39
Q

What is ‘light-touch regulation’?

A

Reducing bank regulation

40
Q

Give 2 benefits of the financial sector to the UK economy

A
  • Provides high income jobs

- Provides vast amounts of corporation tax

41
Q

Give 3 disadvantages of the financial sector to the UK economy

A
  • Large corporations can avoid tax
  • The BOE being a ‘Lender of Last Resorts’ comes out of government revenue
  • Cost of regulatory bodies
42
Q

Name the 5 main categories that caused the Global Financial Crisis

A
  • Sub-Prime Mortgages
  • Moral Hazard
  • Collapse of lending to businesses
  • Speculation and Market Bubbles
  • Role of Organisational Culture
43
Q

What is a subprime mortgage?

A

A risky loan for house payment to those with a low credit rating

44
Q

Why did banks offer subprime mortgages?

A

Because they could charge a higher interest rate

45
Q

What made the subprime mortgages a problem for the economy?

A

When the economy went into a natural downturn, many lost their jobs and defaulted on their payments

46
Q

How did the supply of houses worsen the crisis from subprime mortgages?

A

The supply of houses increased as they were repossessed which lowered their value and lost the banks money

47
Q

What is meant by the ‘moral hazard’ in causing the Global Financial Crisis?

A

Banks were taking greater risk without fear of bankruptcy as they could always fall back on the BOE being ‘Lender of Last Resort’

48
Q

Why was there a collapse of lending to businesses after the Global Financial Crisis had started?

A

They had lost money and confidence and so were not providing credit

49
Q

Which huge bank collapsed because the government were looking to show that they weren’t going to bail all the banks out?

A

Lehmann Bank

50
Q

What was the impact of Lehmann Bank collapsing?

A

Banks lost all confidence and stopped lending altogether

51
Q

What is a market bubble?

A

Where the price of a good deviates from its value significantly

52
Q

What is speculation?

A

Buying something in anticipation of a change in price

53
Q

How did speculators contribute to the global financial crisis?

A

They bought houses and created a market bubble with the price of houses which burst

54
Q

Why was banking culture a major contributor to the global financial crisis?

A

They had a profit at all costs culture and focused on a short-term profit

55
Q

How can the global financial crisis be used as a n example of globalisation?

A

It started in the US and spread all around the world

56
Q

Since 2009, what 3 regulatory bodies have been set up to keep banks stable?

A

PRA
FPC
FCA

EDEXCEL Economics B Paper 1 (11 decks)

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