9. Bank leverage Use the information presented in Midwestern Mutual Bank\'s bala
ID: 1162529 • Letter: 9
Question
9. Bank leverage Use the information presented in Midwestern Mutual Bank's balance sheet to answer the following questions Bank's Balance Sheet Assets Liabilities and Owners' Equity $1,250 $75 Securities $500 Capital (owners' equity)$75 Reserves $125 Deposits $625 Debt Suppose a new customer adds $100 to his account at Midwestern Mutual Bank, which the owners of the bank then use to make $100 worth of new loans. This would increase the loans account and increasethe account. This would also bring the leverage ratio from its initial value of to a new value of Which of the following do bankers take into account when determining how to allocate their assets? Check all that apply. The size of the monetary base The return on each asset The total value of liabilitiesExplanation / Answer
Suppose a new customer adds $100 to his account at midwestern mutual bank , which the owners of the bank then use to make $100 worth of new loans. This would increase the loans account and increase the deposits account. Because within the balance sheet , the total value of all accounts on the assets side equals to the total value on the liabilities side. An increase in an account on the one side must therefore, lead to corresponding increase on the opposite side. Thus, when a new customer adds $100 to his account ,this would increase deposit account and the owners of the bank use to make $100 worth of new loans , this would increase the loans account.
Leverage ratio = Sum of assets divided by the amount of capital.
Original leverage ratio = (125 +625 +500)/ -75 = - 16.67
After the transactions, new leverage ratio must take into account the $100 increase in loans .
New leverage ratio = (125 + 725+500)/ -75 = -18.
This would bring the leverage ratio from its value of -16.67 to a new value of -18.
When determining how to allocate their assets among reserves, loans and financial assets, banks must first sure that their reserve are sufficient to meet the reserve requirements. Each one of asset comes with a different level of risk and rate of return. Riskier assets tend to yield a higher rate of return , thus banks choose the asset allocation that provides the correct balance of risk and profit.
Size of monetary base and total value of liabilities both affect the total value of bank's assets but they do not directly influence the manner in which a bank chooses to allocate those assets.
Hence, bankers take only the return on each asset into account when determining how to allocate their assets.
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