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Flashcards in The Central Bank and Financial Regulation Deck (45)
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1
Q

What is the central bank?

A

This is the banker to the government

2
Q

Name the functions of the central government?

A
Issuing notes and coins
Banker to the government
Banker to the commercial banks
Managing the exchange rate 
Monetary and financial stability
Inflation targeting
3
Q

Explain the central banks role in issuing notes and coins

A

Printing banknotes and issuing them. It only has a monopoly in England and Wales as in Scotland and NI their commercial banks can issue bank notes.

4
Q

Explain the central banks role in being the banker to the government

A

Tax revenues and items of government expenditure as well as items of government borrowing and lending are handled by the bank.

5
Q

Explain the central banks role as being the banker to commercial banks

A

Commercial banks hold deposits at the Bank of England in the form of reserve balances and cash ratio deposits.
The Central bank agrees on an average amount of reserves that commercial banks can borrow per month but if a bank wants to exceed this amount the rate of interest they have to pay is higher than the bank rate.

In the same way, if a bank wants to save beyond the agreed average the interest they receive will be below the bank rate.

6
Q

What is a reserve balance?

A

These are used as a stock of liquid assets

7
Q

Explain the central banks role in managing the exchange rate.

A

The BoE holds the UK’s gold and foreign currency reserves, however it is rare for the bank to intervene and generally the pound is allowed to find its own level.

8
Q

What is monetary stability?

A

When prices are low stable relative.

9
Q

What is financial stability?

A

This is when there is an efficient flow of money in the economy and there is confidence in financial institutions.

10
Q

Explain the central banks role in encouraging financial stability in the economy.

A

The Bank of England is the lender of last resort and will lend money to banks if they can’t obtain this money elsewhere in order to make sure that there is enough liquidity in the economy.

11
Q

Explain the central banks role in inflation targeting

A

In 1997 the Labour government gave the BoE independent responsibility to set interest rates in order to achieve the inflation target. The Monetary Policy Committee is committed to maintaining monetary stability particularly focusing on meeting the governments inflation target.

12
Q

How would the functions of a central bank be different if it wasn’t independent and instead was under ‘government control’.

A

Our BoE was given independence to set the interest rate in order to meet the inflation target set by the government.

13
Q

What is the bank rate?

A

The rate of interest on short term loans issued by the bank of England to other banks, this influences the interest rate paid on other financial assets.

14
Q

What are open market operations?

A

When the central bank buy and sell government securities (a type of long term loan) to influence short run interest rates.

15
Q

What happens when the Bank of England sell government bonds from commercial banks?

A

They are reducing the amount of money in circulation in the economy in the short term, increasing the interest rate.

16
Q

What happens when the Bank of England buy government bonds from commercial banks?

A

When the BoE buy government bonds they are essentially issuing cash to commercial banks in return for the bond, increasing the supply of money. Since there is a higher supply the price of loans (interest rates falls)

17
Q

Why would financial institutions borrowing from the central bank put upward pressure on interest rates?

A

This would increase the amount of cash that the institution has, increasing money supply, causing the quantity of loanable funds to increase and the interest rate.

18
Q

What is quantitative easing?

A

When the central bank increase liquidity in the economy by buying assets from commercial banks. In the financial crash this was financed by creating electronic money.

19
Q

What are the advantages of quantitative easing?

A

The BoE buying these assets increases the liquidity of commercial banks when there isn’t enough liquidity in the economy. They potentially provide financial stability and allow banks enough cash to give to depositors that want to withdraw some of their deposit.

They allow the BoE to control the money supply and credit (the amount of loans influences investment)bin the economy

20
Q

What are the disadvantages of quantitative easing?

A

It causes upward pressure on the inflation rate as consumers have excess cash balances and it causes banks to increase credit in the economy resulting in more loans being taken out.

21
Q

Why are financial institutions regulated?

A

To make sure that banks do not lend too riskily to the point where what they loan isn’t covered by their capital as this opens up the risk of financial instability.

22
Q

What bodies regulate our financial system in the UK?

A

The Prudential Regulation Authority (BoE) is responsible for microprudential regulation

Financial Policy Committee (BoE)- responsible for macroprudential regulation

Financial Conduct Authority (not BoE)

23
Q

What is Microprudential regulation and which body in the bank of England is responsible for it?

A

This is financial regulation to set standards and supervise over 1700 banks, insurers and major investment banks at the level of the individual firm.
This is covered by the Prudential Regulation Authority

24
Q

What is Macroprudential regulation and which body in the bank of England is responsible for it?

A

Financial regulation to reduce risk to the financial system as a whole.
The Financial Policy Committee in the BoE is responsible for this.

25
Q

What is the Financial Conduct Authority?

A

Separate from the Bank of England, this body regulates financial services firms that are not regulated by the (PRA) including asset managers and hedge funds.

It also ensures that relevant financial markets are working well.

26
Q

What is wrong with having a financial system that is not regulated?

A

It increases the likelihood that banks won’t hold enough liquid cash as they’ll lend to large a proportion of deposits out as loans meaning they’re in danger if people ask to withdraw their deposit.

They’ll give more risky loans, beyond what they have capital to cover.

27
Q

What can the Financial Policy Committee do to help regulate the financial stability of the macro economy?

A

It can use the countercyclical capital buffer- this is when banks, building societies and large investment banks can be required to hold extra loss absorbing capital

Can impose Sectoral Capital requirements - if the FPC perceives a risk to the stability of the financial system, firms can be required to meet additional capital levels.

28
Q

What are Sectoral Capital requirements

A

When the FPC perceives a risk to the stability of the

financial system, so firms are required to meet additional capital levels

29
Q

What is the countercyclical capital buffer

A

this is when banks, building societies and large investment banks can be required to hold extra loss absorbing capital. This is to help them absorb unexpected bad debts.

30
Q

What is the meaning of prudent?

A

Being careful at times of uncertainty.

31
Q

Why is financial stability important?

A

When there is enough liquidity in banks it enables firms to finance investment, which causes economic growth which allows economic development and increased living standards.

32
Q

Why is monetary policy important?

A

Low and stable inflation means that firms and consumers can make expectations about the future, meaning our country is seen as safe to invest in. This results in economic growth which allows living standards to rise.

33
Q

What is the primary objective of the Financial Policy Committee in the BoE?

A

To reduce the risk to the financial system as a whole.

34
Q

What is the secondary objective of the Financial Policy Committee in the BoE?

A

To support the government’s economic policy and helping the government to facilitate growth and unemployment.

35
Q

Why is there sometimes a conflict between the BoE primary and secondary objectives.

A

In the financial crash the BoE had to bail out commercial banks to try to achieve financial stability but this resulted in high public sector debt which is bad for the macroeconomic and can reduce consumer and firm confidence in our economy.

36
Q

How did globalisation contribute to the 2008 financial crisis?

A

Since financial markets across countries became more interconnected, this increased the likelihood of contagion, that a financial crisis in one country would spread to another.
This is why international cooperation in regulating financial markets has become more important.

37
Q

Name the three organizations that regulate and coordinate financial markets on an international scale.

A

Bank for International Settlements (BIS)
International Monetary Fund (IMF)
World Bank

38
Q

What is the role of BIS

A

The Bank for International Settlements acts as a banker to 60 central banks and sets standards for regulation of banks that are accepted globally .

39
Q

What has BIS done to improve financial regulation between countries?

A

In 1982 the Basel Committee was set up and this committee created a credit risk measurement that is now accepted globally. This was to prevent a nations central bank from defaulting and failing to meet obligations on international debt.

40
Q

What is the Basel III agreement?

A

This is the most recent agreement on international credit risk requirement set by the Basel Committee in the Bank for International Settlements.
It specifies internationally recognized capital adequacy requirements for central. banks

41
Q

What is the International Monetary Fund?

A

An organization that helps to maintain the stability of the interconnected global financial system.

42
Q

Who does the IMF lend to?

A

It offers short term assistance to countries
experiencing Balance of Payment problems, however the country has to implement certain restrictive monetary and fiscal policies to deal with the deficit.

countries at risk of sovereign default (nation doesn’t meet obligations of international debt).

Governments that need to bail out commercial banks in their country

43
Q

What is the role of the World Bank?

A

To provide longer term loans for projects that will promote development. This is generally done at commercial interest rates.

44
Q

Why is the World Bank seen as more important for LDCs?

A

Often in these less developed countries, financial markets are undeveloped so it is difficult for people to take out loans as the only option is a local money lender that charges an extremely high interest rate.

The loans from the world bank are often at a commercial interest rate and this relatively low interest rate allows funding for projects that promote development and help alleviate poverty.

45
Q

What evidence is there that BIS, World Bank and the IMF haven’t done enough to regulate financial markets internationally?

A

Crises have still occurred such as the Asian financial crisis of 1997 and the 2008 global credit crunch

The HIPC Initiative is what caused the World bank to consider debt forgiveness rather than just the rescheduling of debt.