4.4 Financial Sector

• What are financial markets?

  Places for buying and trading monetary assets
• Why do financial markets exist?

  To meet demand for services and allow speculation
• What are the roles of financial markets?

  • Facilitate savings for future spending
  • Lend to businesses and individuals
  • Facilitate exchange of goods and services
  • Provide forward markets for future transactions
  • Create a market for equities
• How do financial markets facilitate savings?

  By allowing transfer of spending power to the future
• What is a financial intermediary?

  A step between savers and borrowers
• How do financial markets facilitate the exchange of goods and services?

  By creating a payment system
• What do central banks do regarding money supply?

  Control it to keep inflation low
• What is the role of central banks as a banker to the government?

  They hold government accounts and lend money
• How do central banks act as a bank to other banks?

  By balancing accounts and lending money
• What is the lender of last resort?

  Central bank lending to banks in crisis
• What is systemic risk?

  The risk of the entire financial system collapsing
• What are externalities in the financial market?

  Costs not paid by the financial market
• What is moral hazard in financial markets?

  Making risky decisions knowing others bear costs
• How did moral hazard contribute to the Global Financial Crisis?

  Employees sold risky mortgages for bonuses
• What leads to market bubbles in financial markets?

  Speculative trading causing asset prices to rise
• What is herding behavior in financial markets?

  Mass selling due to panic among investors
• What was the Libor scandal?

  Fixing the London Interbank Lending Rate
• What are the key bodies for financial regulation?

  • FPC: Identifies and reduces systemic risk
  • PRA: Ensures competition and minimizes bank failure risk
  • FCA: Protects consumers and prevents market rigging
• What is the purpose of financial regulation?

  To prevent harmful activities and protect consumers
• What is the role of the PRA in financial regulation?

  Ensures competition and minimizes bank failure risk
• What is the role of the FCA in financial regulation?

  Protects consumers and enhances market integrity
• What is the role of the FPC in financial regulation?

  Identifies and reduces systemic risk
• What is the significance of liquidity ratios?

  Ensures banks hold liquid assets for stability
• What is the purpose of deposit insurance?

  Protects consumer deposits and increases stability
• What is the impact of market failure in the financial sector?

  Causes significant damage to the real economy