Regulation of the financial system

Question 1

Financial policy committee

Answer 1

(macro prudential) identify, monitor, and take action to remove or reduce risks that threaten the resilience of the uk financial system as a whole. publish a financial stability report twice a year. has the power to instruct commercial banks to change their capital buffers

Question 2

Prudential regulation authority

Answer 2

(micro prudential) responsible for the prudential regulation and supervision of around 1700 banks, building societies, credit unions, insurers and major investment firms. protects safety of firms

Question 3

Financial conduct authority

Answer 3

funded entirely by the firms it regulates. secures an appropriate degree of protection for consumers, promotes effective competition in the interests of consumers, protects and enhances the integrity of the uk financial system

Question 4

impacts of financial instability on the economy

Answer 4

-negative impact on business investment
-increased precautionary saving lowers demand
-less trust in banks & startups
-credit harder to get
-poorer families are more vulnerable
-policy respond of ultra-low interest rates hits real incomes of savers

Question 5

financial market failure

Answer 5

when financial markets fail to allocate products at the socially optimum level of output

Question 6

5 forms of financial market failure

Answer 6

• moral hazard
  -asymmetric information
  -market rigging/insider trading
  -speculative bubbles
  -systemic risk

Question 7

moral hazard

Answer 7

where an individual or organisation takes many more risks than they should do because they know that they are covered by insurance, or that the government will protect them from any damage incurred as a result of those eg. Lehmen Brothers “too big to fail”

Question 8

asymmetric information

Answer 8

when one individual or party has much more information than another, and uses that advantage to exploit the other party

Question 9

Market rigging/insider trading

Answer 9

collusion or abuse of their power resulting from a concentrated market. when there is a small number of firms in the market, they may choose to work together to increase their joint profits and exploit consumers

Question 10

speculative bubbles

Answer 10

a bubble exists when the price of something is driven well above what it should be, usually due to the behaviour of consumers .eg. shares/houses

Question 11

systemic risk

Answer 11

the possibility that an event at the micro level of the individual bank/insurance company for example could then trigger severe instability or collapse an entire industry or economy

Question 12

liquidity

Answer 12

the ease with which assets can be turned to cask without loss of value

Question 13

basel accords

Answer 13

a set of recommendations for regulations in the banking industry

Question 14

liquidity ratio

Answer 14

current assets/current liabilities

Question 15

capital ratio

Answer 15

measures the funds it has in reserve against the riskier assets it holds that could be vulnerable in the event of a crisis (capital/loans) . basel recommend 8% min

Question 16

leverage ratio

Answer 16

a simple indicator of the ability of a bank or building society to absorb losses (capital/exposures) . basel recommend 3% min