Type:
Solution Manual
Resource:
Financial Institutions, Markets, and Money
Edition:
11th Edition
Author(s):
David S. Kidwell David W. Blackwell David A. Whidbee Richard W. Sias
CHAPTER 1 AN OVERVIEW OF FINANCIAL MARKETS AND INSTITUTIONS CHAPTER OBJECTIVES 1. This chapter introduces the basic elements of the financial system: financial claims, financial markets, and financial institutions. These elements integrate in a conceptual model of the financial system, shown in Exhibit 1-1. This chapter also develops basic vocabulary, which may not be prudently neglected. 2. The chapter compares and contrasts the two basic kinds of financing relationships—direct finance and financial intermediation—in the context of why financial needs exist, how financial claims arise, and what choices for financial activity emerge in different types of institutions and markets. 3. The chapter compares and contrasts major types of financial institutions and financial markets. These mechanisms—institutions and markets—afford participants more liquidity and diversification. Thus more funds flow to the most productive uses, competition among financial institutions lowers costs, and widespread market participation links prices more closely to information, all of which promote market efficiency. A vigorous financial system promotes economic growth and prosperity by maximizing rational opportunities for investment.
CHANGES FROM THE LAST EDITION 1. Chapter sections are numbered in this edition. 2. Chapter opener has been revised. 3. Tables, exhibits, and data have been updated. Exhibit 1.6 is new to this edition. 4. The set of learning objectives has been revised. 5. “Do You Understand?” questions: (1) in the first set, old Q.4 has been deleted and remaining questions revised, (2) two sets of DYU questions have been deleted and three added. There are now five sets of DYU questions in the chapter. 6. End-of-chapter questions: old Q.8 has been deleted and 11 new questions added (Qs. 8, 11-20). 7. Changes to Section 1.1, “The Financial System”: - The subsection “A Preview of the Financial System” has been added; - The subsection “Economic Units” has been eliminated; economic units are now discussed in the next subsection, “Budget Positions”, which has been shortened. - The subsection “Financial Claims” has been shortened. 8. The sections “Moving Funds from SSUs to DSUs” and “Benefits of Financial Intermediation” have been eliminated. In their place are Section 1.2, “Financial Markets and Direct Financing”, and Section 1.6, “Financial Institutions and Indirect Financing”, that discuss the same material and more. E.g., Section 1.6 discusses asymmetric information, which gives rise to adverse selection and moral hazard issues. 9. The order of sections has been changed: Section 1.2, “Financial Markets and Direct Financing”, is now followed by the sections related to financial markets (“Types of Financial Markets”, “Money Markets”, and “Capital Markets”), and Section 1.6, “Financial Institutions and Indirect Financing”, is followed by the sections discussing types of intermediaries and risks they face.
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10. Section 1.3, “Types of Financial Markets”, has a new subsection on public and private markets. 11. Section 1.7, “Types of Financial Intermediaries”, has an expanded discussion of money market mutual funds (MMMFs). 12. The section “Financial Market Efficiency” has been deleted. 13. Section 1.9, “Regulation of the Financial System”, has been added. It covers regulation related to both consumer protection and stabilizing the financial system, as well as provides the highlights of the Restoring American Financial Stability Act of 2010. 14. The feature previously called “Chapter Take-aways” is now called “Summary of Learning Objectives”. The learning objectives from the beginning of each chapter are copied and followed by a short summary of the chapter material related to each objective. This has been done for every chapter.
CHAPTER KEY POINTS 1. The financial system brings savers and borrowers together. Stress these key concepts: SSUs and DSUs, financial claims, direct finance versus financial intermediation, financial institutions, transformation of claims, and types of financial markets. Remind students of financial intermediation in their own lives—checking accounts, insurance, student loans, etc. 2. Direct finance works if preferences of SSUs and DSUs match as to amount, maturity, and risk. Financial intermediaries transform claims to reduce the recurring problem of unmatched preferences: Denomination Divisibility. DSUs prefer to borrow the full funding need all at once. SSUs tend to save small amounts periodically. Intermediaries pool small savings into large investments. Currency Transformation. Intermediaries can buy claims denominated in one currency while issuing claims denominated in another. This would be difficult for most ordinary SSUs. Maturity Flexibility. DSUs generally prefer longer-term financing. SSUs generally prefer shorter-term investments. Intermediaries can offer different ranges of maturities to both. Credit Risk Diversification. Intermediaries manage risk by evaluating and holding many different securities. SSUs on their own would have to leave “more eggs in one basket.” Liquidity. Many claims issued by intermediaries are highly liquid because intermediaries substitute their own liquidity for that of DSUs. 3. Financial institutions are classifiable by their origins, purposes, and major characteristics: Depository Institutions Commercial banks Thrifts (savings and loan associations; mutual savings banks) Credit unions
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