Financial Markets

• What is the definition of money supply?

  Total supply of money in the economy
• What is narrow money?

  Money ready to spend immediately e.g cash and money in debit/credit accounts
• What is broad money?

  1. Money harder to access than narrow money (can't be spent immediately) e.g savings accounts, cheques or government bonds
• Why are government bonds considered broad money?

  They must be sold before cash can be spent
• What is the money market?

  Market for buying and selling short-term financial assets eg overdrafts
• What is the capital market?

  Market for buying and selling long-term financial assets eg large business loans
• What is the foreign exchange market?

  Market for buying and selling foreign currencies
• What is the exchange rate?

  The price of foreign currencies
• What is debt in finance?

  Finance raised by borrowing money
• What are two ways a business can raise finance through debt?

  Loans from banks and issuing corporate bonds
• What is equity in finance?

  Finance raised by selling shares in a company
• What does owning 5% equity in a company mean?

  You own 5% of that company
• What are corporate bonds?

  Debt instruments for raising finance from investors
• What is an advantage of raising finance through debt?

  Owner retains full ownership of the company
• What is a disadvantage of raising finance through debt?

  Must be paid back with interest
• What is an advantage of raising finance through equity?

  Money raised does not need to be paid back
• What is a disadvantage of raising finance through equity?

  Owner loses a share of future profits
• What does maturity refer to in bonds?

  When final interest on a bond is paid
• What is the coupon rate?

  Annual interest rate received on a bond
• How is yield calculated?

  Yield = (Payoff/Bond Price) × 100
• If a bond has a payoff of £10 and a price of £100, what is the yield?

  10%
• What is the relationship between bond price and yield?

  As bond price increases, yield decreases
• What is the difference between coupon rate and bond yield?

  Coupon rate is fixed; yield varies with price
• What do commercial banks deal with?

  Ordinary everyday banking activities
• What do investment banks do?

  Invest in companies by buying shares
• What is a balance sheet?

  Record of a bank's finances
• What are the two main components of a bank's balance sheet?

  Assets and liabilities
• What does liquidity measure?

  How easily an asset can be turned into cash
• What is the liquidity ratio?

  Liquid assets divided by deposits
• What does a high capital ratio indicate?

  Bank has lots of capital compared to loans
• What is the risk of a low capital ratio?

  More likely for the bank to go bust
• What are the advantages and disadvantages of debt financing?

  Advantages:

  • Owner retains full ownership
  • Keeps 100% of profits

  
  

  Disadvantages:

  • Must be paid back with interest
• What are the advantages and disadvantages of equity financing?

  Advantages:

  • Money raised does not need to be paid back
  • Investor takes on risk

  
  

  Disadvantages:

  • Owner loses a share of profits
• What are the key components of bond yield calculations?

  • Yield: interest rate received on a bond
  • Payoff: actual amount received in interest
  • Coupon rate: annual interest rate paid
• What is the profit-liquidity trade-off for banks?

  • Increasing lending increases profit
  • Less cash available for withdrawals
  • Higher lending reduces liquidity
• What is the structure of a commercial bank's balance sheet?

  • Assets: money the bank has
  • Liabilities: money the bank owes