if credit is seriously in doubt when catastrophe occurs may not be able to

If credit is seriously in doubt when catastrophe

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if credit is seriously in doubt (when catastrophe occurs), may not be able to borrow at all. 11. Banks are highly regulated but have low equity ratios. Finance companies are not regulated much at all, yet they have much higher equity ratios. How do you explain this? Deposit insurance means that bank customers don’t care as much about the equity of a bank being sufficient to cover their deposits in the case of default. Banks also face lower risks, as finance companies provide loans to individuals who may otherwise have not been able to access credit. Because finance companies exist to increase the profits of another part of their business, ROE isn’t as important.
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Finance company: an institution set up to provide credit to households or firms, usually to finance the purchase of appliances or equipment; don’t accept deposits.
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Shifting IR risk or exchange rate risk on the borrower only transforms it into credit risk Heavy reliance on borrowed fund (liability management) is undesirable If banks do do this, they must be careful about the safety of their assets Borrowed funds are much more volatile than core deposits and can evaporate if the bank gets in trouble Rapid expansions of loans is bad bc easier to find bad loans than good Leverage brings higher return but only at the cost of higher risk Know you borrower or your counterparty Small banks focus in retail- therefore are deposit rich, must rely on asset management for liquidity Money- center big banks are wholesale, deposit poor, liability management Liability management is inherently more dangerous than asset Liability key- always ABLE to borrow Banks can reduce danger by lengthening maturity of liabilities Banks try to reduce reliance on liability management through- Increasing core deposits Holding more liquid assets, and increasing off balance sheet activities Intermediaries face market risk when, assets and liabilities imperfectly match with maturity and currency Bank in refinance will lose when interest rates rise (earn on average the term premium because yield curve has a positive slope) Reinvestment would gain when they rise Market risk has potential for gain Thrifts, pension funds both face market risk too To deal with credit risk, intermediaries must Exercise care Price appropriately Diversify Intermediaries risk and capital must be appropriate to one another
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