Liquidity management strategy

Reference no: EM13827829

Problem:

Assets		Liabilities and Equity
Cash Required Reserves	$2 million	Deposits	$8 million
Loans	$10 million	Long-term Debt	$2 million
		Equity	$2 million
Total	$12 million	Total	$12 million

The average interest earned on the loans is 6 percent and the average cost of deposits is 5 percent. Rising interest rates are expected to reduce the deposits by $3 million. Borrowing more debt will cost the bank 5.5 percent in the short term.

1. What will be the size of the bank if a stored liquidity management strategy is adopted?

a. $9 million.
b. $11 million.
c. $12 million.
d. $14 million.
e. $15 million.

2. What will be the cost of using a strategy of reducing its asset base to meet the expected decline in deposits? Assume that the bank intends to keep $2 million in cash as a liquidity precaution.

a. $10,000.
b. $15,000.
c. $30,000.
d. $40,000.
e. $50,000.

3. What will be the cost of using a strategy of purchased liquidity management to meet the expected decline in deposits? Assume that the bank intends to keep $2 million in cash as liquidity precaution.

a. $10,000.
b. $15,000.
c. $30,000.
d. $40,000.
e. $50,000.

4. What will be the size of the bank if a purchased liquidity management strategy is adopted?

a. $9 million.
b. $11 million.
c. $12 million.
d. $14 million.
e. $15 million.

Additional Information:

These questions is from Finance and it is regarding a scenario where a bank's average interest on loans is 6% and average cost of deposits is 5% and borrowing more debt will cost bank more. Questions about this situation such as the size of the bank, cost of reducing asset base and purchased liquidity management, etc have been answered in the solution comprehensively.

Reference no: EM13827829

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