June 28 - • Issues in the Banking Industry •...

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Unformatted text preview: • Issues in the Banking Industry • Interest-rate risk: Duration Gap • Securitization • The Essence of the Subprime Crisis • The Money Multiplier • Change in Total Deposits • Change in the Money Supply • The Federal Reserve System • How Does the Fed Work? • Open Market Operations • Other Tools of the Fed • Money Demand • Equilibrium in the Money Market The Bank Balance Sheet The Bank Balance Sheet Individual Balance Sheet Assets (A) Liabilities (L) Net Worth (NW) $ 0 Home $250,000 Mortgage $250,000 Individual Balance Sheet: The Effect of Rising House Prices Assets (A) Liabilities (L) Net Worth (NW) Home $300,000 Mortgage $230,000 Individual Balance Sheet: The Effect of Rising House Prices Assets (A) Liabilities (L) Net Worth (NW) $ 70,000 Home $300,000 Mortgage $230,000 Individual Balance Sheet: The Effect of Falling House Prices Assets (A) Liabilities (L) Net Worth (NW)- $30,000 Home $200,000 Mortgage $230,000 Finance Jargon: Securitization The process of transforming generally illiquid financial assets (such as mortgages, auto loans, and credit card receivables), typically held by banks, into marketable capital market securities —in effect, into bonds. Securitization is where banks and bonds overlap. A $1M Loan Defaults Assets (A) Liabilities (L) Net Worth (NW) A $1M Loan Defaults Assets (A) Liabilities (L) Net Worth (NW) Loans −$1M A $1M Loan Defaults Assets (A) Liabilities (L) Net Worth (NW) Loans −$1M −$1M Excess Reserves Before and During the Crisis Total Change in Deposits ∆ Total Deposits = (Initial Deposit) × 1/R Total Change in Deposits ∆ Total Deposits = (Initial Deposit) × 1/(R + E) Total Change in Deposits ∆ Total Deposits = (Initial Deposit) × 1/(R + E) 1/(R + E) is the “money multiplier” Total Change in Deposits and Money Supply ∆ Total Deposits = (Initial Deposit) × 1/(R + E) 1/(R + E) is the “money multiplier” ∆ Money Supply = ∆ Total Deposits + ∆ Cash Held by Public Total Change in Deposits and Money Supply $10,000 deposit Total Change in Deposits and Money Supply $10,000 deposit R = 10% Total Change in Deposits and Money Supply $10,000 deposit R = 10% E = 0% Total Change in Deposits and Money Supply $10,000 deposit R = 10% E = 0% ∆ Total Deposits = ($10,000) × 1/(.1) Total Change in Deposits and Money Supply $10,000 deposit R = 10% E = 0% ∆ Total Deposits = ($10,000) × 1/(.1) = $100,000 Total Change in Deposits and Money Supply $10,000 deposit R = 10% E = 0% ∆ Total Deposits = ($10,000) × 1/(.1) = $100,000 ∆ Money Supply Total Change in Deposits and Money Supply $10,000 deposit R = 10% E = 0% ∆ Total Deposits = ($10,000) × 1/(.1) = $100,000 ∆ Money Supply = ∆ Total Deposits Total Change in Deposits and Money Supply $10,000 deposit R = 10% E = 0% ∆ Total Deposits = ($10,000) × 1/(.1) = $100,000 ∆ Money Supply = ∆ Total Deposits + ∆ Cash Held by Public Total Change in Deposits and Money Supply $10,000 deposit R = 10% E = 0% ∆ Total Deposits = ($10,000) × 1/(.1) = $100,000 ∆ Money Supply = ∆ Total Deposits + ∆ Cash Held by Public = $100,000 Total Change in Deposits...
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June 28 - • Issues in the Banking Industry •...

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