Multiple Choice Assignment 9

American Businesses get their external funds primarily from Loans from nonbank financial institutions
Direct finance involves the sale to ________ of marketable securities such as stocks and bonds. households
Of the sources of external funds for nonfinancial businesses in the United States, stocks account for approximately ________ of the total. 11%
By bundling share purchases of many investors together mutual funds can take advantage of economies of scale and thereby lower transaction costs
Financial intermediaries’ low transaction costs allow them to provide ________ services that make it easier for customers to conduct transactions. liquidity
Financial intermediaries develop ________ in things such as computer technology which allows them to lower transactions costs. expertise
One purpose of regulation of financial markets is to promote the provision of information to shareholders, depositors and the public.
Which of the following is not one of the eight basic puzzles about financial structure? Stocks are the most important source of finance for American businesses.
The predominant form of household debt is collateralize debt
A clause in a mortgage loan contract requiring the borrower to purchase homeowner’s insurance is an example of a Restrictive covenant
Collateralized debt is also know as secured debt
Which of the following statements concerning external sources of financing for non financial businesses in the United States are true? Stocks and bonds, combined, supply less than one-half of the external funds.
If bad credit risks are the ones who most actively seek loans then financial intermediaries face the problem of adverse selection
The presence of ________ in financial markets leads to adverse selection and moral hazard problems that interfere with the efficient functioning of financial markets. asymmetric information
An example of the ________ problem would be if Brian borrowed money from Sean in order to purchase a used car and instead took a trip to Atlantic City using those funds. moral hazard
Nonfinancial businesses in Germany, Japan, and Canada raise most of their funds from bank loans
The “lemons problem” exists because of asymmetric informtion
The ________ problem helps to explain why the private production and sale of information cannot eliminate ________. free-rider; adverse selection
The problem faced by the lender that the borrower may take on additional risk after receiving the loan is called Moral hazard
Adverse selection is a problem associated with equity and debt contracts arising from the lender’s relative lack of information about the borrower’s potential returns and risks of his investment activities.
Government regulations require publicly traded firms to provide information, reducing The adverse selection problem
Which of the following statements concerning external sources of financing for nonfinancial businesses in the United States are true? Stocks are a relatively unimportant source of finance for their activities.
Equity contracts are claims to a share in the profits and assets of a business.
That only large, well-established corporations have access to securities markets Explains why indirect finance is such an important source of external funds for businesses.
Because information is scarce monitoring managers gives rise to costly state verification.
Since they require less monitoring of firms, ________ contracts are used more frequently than ________ contracts to raise capital. debt;equity
Analysis of adverse selection indicates that financial intermediaries, especially banks, have advantages in overcoming the free-rider problem, helping to explain why indirect finance is a more important source of business finance than is direct finance.
High net worth helps to diminish the problem of moral hazard problem by making the debt contract incentive compatible.
A debt contract is incentive compatible if the borrower has the incentive to behave in the way that the lender expects and desires, since doing otherwise jeopardizes the borrower’s net worth in the business.
Debt contracts are agreements by the borrowers to pay the lenders fixed dollar amounts at periodic intervals.
Solutions to the moral hazard problem include monitoring and enforcement of restrictive covenants.
One reason financial systems in developing and transition countries are underdeveloped is the legal system may be poor making it difficult to enforce restrictive covenants.
A key finding of the economic analysis of financial structure is that the existence of the free-rider problem for traded securities helps to explain why banks play a predominant role in financing the activities of businesses.
Professional athletes often have contract clauses prohibiting risky activities such as skiing and motorcycle riding. These clauses are Restrictive coventants
Although debt contracts require less monitoring than equity contracts, debt contracts are still subject to ________ since borrowers have an incentive to take on more risk than the lender would like. Moral Hazard

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