MN-2502: Financial Institutions and Markets

1. (a) With reference to examples, discuss the characteristics and consequences of financial bubbles. (15 marks)

(b) Discuss the contribution of Minsky’s Financial Instability Hypothesis to our understanding of financial bubbles.                                                         (18 marks)

2. (a) Explain financial intermediation by banks and explain how this helps to mitigate against conflicting requirements of lenders and borrowers. (15 marks)

(b) Discuss the contribution of the Diamond model of delegated monitoring to helping us understand why banks exist.                                                         (18 marks)

3. (a) Explain the differences between ordinary shares, preference shares, corporate bonds and government bonds from the point of view of an investor.                                                                                     (10 marks)

(b) A company has just paid an annual dividend of £2. The growth rate of dividends for the company is 3% per year. The current share price of the company is £15. What is the required return for shareholders for this share?                                    (6 marks)

(c) A bond pays a 3% coupon annually. The par value of the bond is £100 and it has 4 years left until it matures. If yields on similar bonds are 4% calculate the fair price for this bond?                                                                                        (6 marks)

(d) Calculate the duration for the bond described in (c)?                  (6 marks)

(e) Explain the relationship between the price of a bond and its yield.

(5 marks)

4. (a) Discuss the reasons for and against the regulation of banks. (15 marks)

(b) Explain the role of the Financial Stability Board.                        (8 marks)

(c) Explain the problems with Basel 1 and discuss how Basel 2 addresses those problems.                                                                                              (12 marks)

5. (a) Explain the adverse selection problem as it affects lending/borrowing.

(18 marks)

(b) Discuss how and why banks are best able to mitigate the adverse selection problem in lending.                                                                             (15 marks)