--%>
Assignment Help - homework help

Banking crisis on checkable deposits

Question:

Some developing countries have suffered banking crises in which depositors lost part or all of their deposits (in some countries there is no deposit insurance). This type of crisis decreases depositors' confidence in the banking system. What would be the effect of a rumor about a banking crisis on checkable deposits in such a country? What would be the effect of on reserves and the monetary base?

Answer:

The depositors of the country under consideration have faced this kind of crisis in the past, as mentioned in the question. Therefore, their confidence level in the banking system is not very high due to past experiences.

Now suppose there is a rumor that one or two banks are facing crisis on the checkable deposit accounts. This will probably lead to a bank run. A bank run happens when the depositors lose trust in the banking system and all the depositors line up at the same time to withdraw their deposits. In this case also, a rumor will lead all the depositors to try and withdraw all their deposits. Under this scenario, all the banks which do not have enough excess reserves will fail. Even the banks with sufficient reserves will be in troubled waters as paying back the entire deposits is simply not possible for a bank in one go, as most of the assets of the banks lie as loans, which cannot be called back at a such a short notice.

The central bank of the country will step in to control the situation by lending to the banks in order to meet their deposits obligations. This will mean that one hand the bank reserves deplete and on the other, their liabilities vis-à-vis the central banks decrease. Also, since the banks' excess fall steeply, as discussed above. So overall, there would be a steep fall in the monetary base. 

   Related Questions in Business Economics

  • Q : Reduce price differences by arbitrage

    When government intervention is not present, than arbitrage: (w) will reduce price differences when similar good sells at various prices within separate markets. (x) results into economic losses for traders. (y) causes high economic profits for mercha

    		•
  • Q : Define the for whom query in market

    The market system responses the “for whom?” query with: (i) distributing goods on the basis of require. (ii) using central planning to coordinate production decisions. (iii) catering to consumers with adequate resources to demand goods. (i

    		•
  • Q : Perfect competition leads the economic

    The perfectly competitive market structure benefits consumers since: w) firms do not generate goods at the lowest possible price within the long run. x) firms are forced through competitive pressure to be as efficient as possible. y) firms add a much

    		•
  • Q : Meaning of invisible hand according to

    Adam Smith’s opinion of an “invisible hand” powerfully implies the meaning that: (w) pursuit of individual self interest must be controlled. (x) most people lose sight of what’s good for society. (y) most peopl

    		•
  • Q : Major implication of invisible hand of

    The major implication of Adam Smith’s conception of an “invisible hand” was such that: (w) pursuit of individual self interest must be controlled. (x) most people lose sight of what’s good for society. (y) most

    		•
  • Q : Describe two kinds of efficiency Full

    Describe two kinds of efficiency Full production imply?

    		•
  • Q : Characterized contestable markets

    Industries that are described as "contestable": (w) will experience long-run economic profits equal to zero. (x) are difficult for firms to enter, but not to exit. (y) are difficult for firms to exit, but not to enter. (z) will charge prices greater t

    		•
  • Q : What are patent rights Patent rights :

    Patent rights: It is a unique license or right granted to a company or an Individual to make a specific product or utilize a specific technology.

    		•
  • Q : Utilitarianism of Jeremy Bentham with

    The utilitarianism of Jeremy Bentham would clash most strongly along with the philosophic principles of: (w) the epicureans who followed the teachings of Epicurus [c. 341 to 271 BC]. (x) hedonism. (y) the Greek philosophers and mediev

    		•
  • Q : Conception of the Invisible Hand by

    Conception of the “Invisible Hand” by Adam Smith relies on mechanisms like those as underpin: (1) William Stanley Jevons’ “sunspot” theory of business cycles. (2) the biological concept of Homeostasis. (3

    		•