Financial markets and institutions 8th global edition by miskin eankins

Financial Markets
Institutions
and

For these Global Editions, the editorial team at Pearson has
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features alterations, customization, and adaptation from the North
American version.

Mishkin • Eakins

Pearson Global Edition

Financial Markets
and Institutions
eighth edition
Frederic S. Mishkin  •  Stanley G. Eakins

eighth edition

This is a special edition of an established title widely
used by colleges and universities throughout the world.
Pearson published this exclusive edition for the benefit
of students outside the United States and Canada. If you
purchased this book within the United States or Canada,
you should be aware that it has been imported without
the approval of the Publisher or Author.

Global
edition

Global
edition

Global
edition


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Bridging the Gap: Applying Theory to Practice
Financial Markets and Institutions’s rich chapter features—
including The Practicing Manager, Cases, General Interest Boxes,
and Following the Financial News—enable students to both understand and apply core concepts. This compelling pedagogy, combined
with the authors’ experience as practitioners, rounds out the text’s
applied managerial perspective.

The Practicing Manager
CHAPTER 3
Calculating Duration to Measure Interest-Rate Risk

CHAPTER 4
Profiting from Interest-Rate Forecasts

CHAPTER 5
Using the Term Structure to Forecast Interest Rates

CHAPTER 6
Practical Guide to Investing in the Stock Market

CHAPTER 10
Using a Fed Watcher

CHAPTER 15
Profiting from Foreign Exchange Forecasts

CHAPTER 16
Profiting from a Foreign Exchange Crisis

CHAPTER 17
Strategies for Managing Bank Capital

CHAPTER 19
Profiting from a New Financial Product: A Case
Study of Treasury Strips

CHAPTER 21
Insurance Management

CHAPTER 23
Strategies for Managing Interest-Rate Risk

CHAPTER 24
Hedging Interest-Rate Risk with Forward Contracts
Hedging with Financial Futures
Hedging Foreign Exchange Risk with Forward
and Futures Contracts
Hedging with Stock Index Futures
Hedging with Futures Options

Hedging with Interest-Rate Swaps

Cases
CHAPTER 4
Changes in the Interest Rate Due to Expected Inflation:
The Fisher Effect
Changes in the Interest Rate Due to a Business
Cycle Expansion
Explaining Low Japanese Interest Rates

CHAPTER 5
The Global Financial Collapse and the Baa Treasury Spread
Effects of the Bush Tax Cut and the Obama Tax Increase
on Bond Interest Rates
Interpreting Yield Curves, 1980–2013

CHAPTER 6
Should Foreign Exchange Rates Follow a Random Walk?
What Do the Stock Market Crashes Tell Us About the Efficient
Market Hypothesis?

CHAPTER 7
Financial Development and Economic Growth
Is China a Counter-Example to the Importance of Financial
Development?

CHAPTER 8
The Mother of All Financial Crises: The Great Depression
The Global Financial Crisis of 2007–2009

CHAPTER 10
How the Federal Reserve’s Operating Procedures Limit
Fluctuations in the Federal Funds Rate

CHAPTER 11
Discounting the Price of Treasury Securities to
Pay the Interest

CHAPTER 12
The 2007–2009 Financial Crisis and the Bailout of Fannie
Mae and Freddie Mac

CHAPTER 13
The 2007–2009 Financial Crisis and the Stock Market
The September 11 Terrorist Attack, the Enron Scandal,
and the Stock Market

CHAPTER 14
The Discount Point Decision

CHAPTER 15
Effect of Changes in Interest Rates on the Equilibrium
Exchange Rate
Why Are Exchange Rates So Volatile?
The Dollar and Interest Rates
The Global Financial Crisis and the Dollar

CHAPTER 16
The Foreign Exchange Crisis of September 1992
How Did China Accumulate Over $3 Trillion of

International Reserves?

CHAPTER 17
How a Capital Crunch Caused a Credit Crunch During
the Global Financial Crisis

CHAPTER 20
Calculating a Mutual Fund’s Net Asset Value

CHAPTER 24
Lessons from the Global Financial Crisis: When Are
Financial Derivatives Likely to Be a Worldwide
Time Bomb?

General Interest Boxes
CHAPTER 2
Global: Are U.S. Capital Markets Losing Their Edge?
Global: The Importance of Financial Intermediaries Relative to
Securities Markets: An International Comparison

Symbol

Page Where
Introduced

Term

iD

405

interest rate on dollar assets

F

405

interest rate on foreign assets

ir

89

real interest rate

Pt

93

price of a security at time t

R

93

return

i

D

406

expected return on dollar deposits

RF

406

expected return on foreign deposits

ROA

447

return on assets

ROE

447

return on equity

RSA

611

rate-sensitive assets

RSL

611

rate-sensitive liabilities

S

112

supply curve

R


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CHAPTER 3
Global: Negative T-Bill Rates? It Can Happen
Mini-Case: With TIPS, Real Interest Rates Have Become
Observable in the United States
Mini-Case: Helping Investors Select Desired Interest-Rate Risk

CHAPTER 5
Mini-Case: The Yield Curve as a Forecasting Tool for Inflation
and the Business Cycle

CHAPTER 6
Mini-Case: An Exception That Proves the Rule:
Raj Rajaratnam and Galleon
Mini-Case: Should You Hire an Ape as Your Investment Adviser?

CHAPTER 7
Mini-Case: The Enron Implosion
Mini-Case: Should We Kill All the Lawyers?
Mini-Case: The Demise of Arthur Andersen
Mini-Case: Credit Rating Agencies and the 2007–2009
Financial Crisis
Mini-Case: Has Sarbanes-Oxley Led to a Decline in U.S.
Capital Markets?

CHAPTER 8
Mini-Case: Collateralized Debt Obligations (CDOs)
Inside the Fed: Was the Fed to Blame for the Housing Price Bubble?
Global: The European Sovereign Debt Crisis

CHAPTER 9
Inside the Fed: The Political Genius of the Founders of the
Federal Reserve System
Inside the Fed: The Special Role of the Federal Reserve Bank
of New York
Inside the Fed: The Role of the Research Staff
Inside the Fed: The FOMC Meeting
Inside the Fed: Green, Blue, Teal and Beige: What Do These
Colors Mean at the Fed?
Inside the Fed: How Bernanke’s Style Differs from Greenspan’s
Inside the Fed: The Evolution of the Fed’s Communication Strategy

CHAPTER 10
Inside the Fed: A Day at the Trading Desk
Inside the Fed: Fed Lending Facilities During the Global

Financial Crisis
Global: The European Central Bank’s Monetary Policy Strategy
Inside the Fed: Ben Bernanke and the Federal Reserve Adoption
of Inflation Targeting

CHAPTER 11
Mini-Case: Treasury Bill Auctions Go Haywire
Global: Ironic Birth of the Eurodollar Market

CHAPTER 13
Mini-Case: History of the Dow Jones Industrial Average

CHAPTER 14
E-Finance: Borrowers Shop the Web for Mortgages

CHAPTER 16
Inside the Fed: A Day at the Federal Reserve Bank of New York’s
Foreign Exchange Desk
Global: Why the Large U.S. Current Account Deficit
Worries Economists
Mini-Case: Will the Euro Survive?
Global: Argentina’s Currency Board
Global: Dollarization

CHAPTER 17
Conflicts of Interest: Barings, Daiwa, Sumitomo, Société
Générale, and J.P. Morgan Chase: Rogue Traders and the
Principal–Agent Problem

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CHAPTER 18
Global: The Spread of Government Deposit Insurance Throughout
the World: Is This a Good Thing?
Global: Where is the Basel Accord Heading After the Global
Financial Crisis?
Mini-Case: Mark-to-Market Accounting and the Global
Financial Crisis
Mini-Case: The Global Financial Crisis and Consumer
Protection Regulation
E-Finance: Electronic Banking: New Challenges for Bank
Regulation
Global: International Financial Regulation

CHAPTER 19
E-Finance: Will “Clicks” Dominate “Bricks” in the Banking
Industry?
E-Finance: Why Are Scandinavians So Far Ahead of Americans in
Using Electronic Payments and Online Banking?
E-Finance: Are We Headed for a Cashless Society?
Mini-Case: Bruce Bent and the Money Market Mutual Fund
Panic of 2008
E-Finance: Information Technology and Bank Consolidation
Mini-Case: The Global Financial Crisis and the Demise of Large,
Free-Standing Investment Banks

CHAPTER 20
Mini-Case: The Long Term Capital Debacle
Conflicts of Interest: Many Mutual Funds Are Caught Ignoring
Ethical Standards

Conflicts of Interest: SEC Survey Reports Mutual Fund
Abuses Widespread

CHAPTER 21
Mini-Case: Insurance Agent: The Customer’s Ally
Conflicts of Interest: The AIG Blowup
Conflicts of Interest: The Subprime Financial Crisis and the
Monoline Insurers
Mini-Case: Power to the Pensions

CHAPTER 22
Mini-Case: Example of Using the Limit-Order Book
E-Finance: Venture Capitalists Lose Focus with Internet
Companies

CHAPTER 24
Mini-Case: The Hunt Brothers and the Silver Crash
Mini-Case: Program Trading and Portfolio Insurance:
Were They to Blame for the Stock Market Crash
of 1987?

Following the Financial News
CHAPTER 2
Foreign Stock Market Indexes

CHAPTER 4
Forecasting Interest Rates

CHAPTER 5
Yield Curves

CHAPTER 15
Foreign Exchange Rates

CHAPTER 24
Financial Futures
Stock Index Futures

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Financial Markets
and Institutions
E i g h t h E d i t i o n G L O B A L E DITION

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The Pearson Series in Finance
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International Financial Management
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Corporate Finance: The Core*

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Fundamentals of Corporate Finance*

Brooks
Financial Management: Core Concepts*

Copeland/Weston/Shastri
Financial Theory and Corporate Policy

Dorfman/Cather
Introduction to Risk Management and
Insurance

Personal Finance
Principles of Managerial Finance*
Principles of Managerial Finance––Brief

Edition*

Haugen
The Inefficient Stock Market: What Pays
Off and Why
The New Finance: Overreaction,
Complexity, and Uniqueness

Holden
Excel Modeling in Corporate Finance
Excel Modeling in Investments

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Multinational Business Finance

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Bond Markets: Analysis and Strategies

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Capital Markets: Institutions and
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Foundations of Financial Markets and
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Financial Management for Public, Health,
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Financial Markets and Institutions

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Psychology of Investing

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Financial Markets
and Institutions
E i g h t h E d i t i o n G L O B A L E DITION

Frederic S. Mishkin

Graduate School of Business, Columbia University

Stanley G. Eakins

East Carolina University

Boston Columbus Indianapolis New York San Francisco Hoboken
Amsterdam Cape Town Dubai London Madrid Milan Munich Paris Montréal Toronto
Delhi Mexico City São Paulo Sydney Hong Kong Seoul Singapore Taipei Tokyo

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The rights of Frederic S. Mishkin and Stanley G. Eakins to be identified as the authors of this work have
been asserted by them in accordance with the Copyright, Designs and Patents Act 1988.
Authorized adaptation from the United States edition, entitled Financial Markets and Institutions, 8th
edition, ISBN 978-0-13-342362-4, by Frederic S. Mishkin and Stanley G. Eakins, published by Pearson
Education © 2015.
Copyright © 2016, 2012, 2009 by Frederic S. Mishkin. All rights reserved. No part of this publication
may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic,
mechanical, photocopying, recording or otherwise, without either the prior written permission of the publisher or a license permitting restricted copying in the United Kingdom issued by the Copyright Licensing
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ISBN 10: 1-292-06048-4
ISBN 13: 978-1-292-06048-4
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A catalogue record for this book is available from the British Library
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Printed and bound by Courier/Kendallville in the United States of America

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To My Dad
—F. S. M.
To My Wife, Laurie
—S. G. E.

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Contents in Brief

Contents in Detail
Contents on the Web
Preface
About the Authors

11
29
33
41



43

part one Introduction
1
2






part two Fundamentals of Financial Markets
3
4
5
6

What Do Interest Rates Mean and What Is Their Role in Valuation?
Why Do Interest Rates Change?
How Do Risk and Term Structure Affect Interest Rates?
Are Financial Markets Efficient?

part three Fundamentals of Financial Institutions
7
8






Why Study Financial Markets and Institutions?
Overview of the Financial System

Why Do Financial Institutions Exist?
Why Do Financial Crises Occur and Why Are They So
Damaging to the Economy?

part fourCentral Banking and the Conduct of Monetary Policy

9
10

Central Banks and the Federal Reserve System
Conduct of Monetary Policy: Tools, Goals, Strategy, and Tactics

part five Financial Markets
11
12
13
14
15
16

The
The
The

The
The
The

Money Markets
Bond Market
Stock Market
Mortgage Markets
Foreign Exchange Market
International Financial System

part sixThe Financial Institutions Industry
17
18
19
20
21
22

Banking and the Management of Financial Institutions
Financial Regulation
Banking Industry: Structure and Competition
The Mutual Fund Industry
Insurance Companies and Pension Funds
Investment Banks, Security Brokers and Dealers, and Venture Capital Firms

43
57

78

78
106
129
157

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175
206

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339
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381
409

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460
490
525
550
580

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10



Contents in Brief

part sevenThe Management of Financial Institutions
23
24




Risk Management in Financial Institutions
Hedging with Financial Derivatives

Glossary

Index

604
604
625

G-1
I-1

Chapters on the Web




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25
26
27

Financial Crises in Emerging Market Economies
Savings Associations and Credit Unions
Finance Companies

W-1
W-22
W-48

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Contents in Detail
Contents on the Web
Preface

About the Authors




part one Introduction
Chapter 1 Why Study Financial Markets and Institutions?
Preview
Why Study Financial Markets?
Debt Markets and Interest Rates
The Stock Market
The Foreign Exchange Market
Why Study Financial Institutions?
Structure of the Financial System
Financial Crises
Central Banks and the Conduct of Monetary Policy
The International Financial System
Banks and Other Financial Institutions
Financial Innovation
Managing Risk in Financial Institutions
Applied Managerial Perspective
How We Will Study Financial Markets and Institutions
Exploring the Web
Collecting and Graphing Data
Web Exercise
Concluding Remarks
Summary
Key Terms
Questions
Quantitative Problems

Web Exercises



29
33
41

Chapter 2 Overview of the Financial System
Preview
Function of Financial Markets
Structure of Financial Markets
Debt and Equity Markets
Primary and Secondary Markets
Exchanges and Over-the-Counter Markets
Money and Capital Markets

43
43
44
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47
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12

Contents in Detail

Internationalization of Financial Markets
International Bond Market, Eurobonds, and Eurocurrencies
Global  Are U.S. Capital Markets Losing Their Edge?
World Stock Markets
Function of Financial Intermediaries: Indirect Finance
Transaction Costs
Following the Financial News  Foreign Stock Market Indexes
Global  The Importance of Financial Intermediaries Relative to Securities
Markets: An International Comparison
Risk Sharing
Asymmetric Information: Adverse Selection and Moral Hazard
Economies of Scope and Conflicts of Interest
Types of Financial Intermediaries
Depository Institutions
Contractual Savings Institutions
Investment Intermediaries
Regulation of the Financial System
Increasing Information Available to Investors
Ensuring the Soundness of Financial Intermediaries
Financial Regulation Abroad
Summary
Key Terms
Questions
Web Exercises

62
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68
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70
71
71
72
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75
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77

part two Fundamentals of Financial Markets
Chapter 3What Do Interest Rates Mean and What Is Their
Role in Valuation?
Preview
Measuring Interest Rates

Present Value
Four Types of Credit Market Instruments
Yield to Maturity
The Distinction Between Real and Nominal Interest Rates
Global  Negative T-Bill Rates? It Can Happen
The Distinction Between Interest Rates and Returns
Mini-Case  With TIPS, Real Interest Rates Have Become
Observable in the United States
Maturity and the Volatility of Bond Returns: Interest-Rate Risk
Reinvestment Risk
Summary
Mini-Case  Helping Investors Select Desired Interest-Rate Risk
the practicing manager  Calculating Duration to Measure Interest-Rate Risk
Calculating Duration
Duration and Interest-Rate Risk
Summary
Key Terms

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78
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Contents in Detail

Questions
Quantitative Problems
Web Exercises




Chapter 4 Why Do Interest Rates Change?

13

104
104
105

106

Preview
Determinants of Asset Demand
Wealth
Expected Returns
Risk
Liquidity
Theory of Portfolio Choice
Supply and Demand in the Bond Market
Demand Curve
Supply Curve
Market Equilibrium
Supply-and-Demand Analysis
Changes in Equilibrium Interest Rates
Shifts in the Demand for Bonds
Shifts in the Supply of Bonds
case  Changes in the Interest Rate Due to Expected Inflation: The Fisher Effect
case  Changes in the Interest Rate Due to a Business Cycle Expansion
case  Explaining Low Japanese Interest Rates
The Practicing Manager  Profiting from Interest-Rate Forecasts
Following the Financial News  Forecasting Interest Rates
Summary
Key Terms
Questions
Quantitative Problems
Web Exercises
Web Appendices

106

107
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107
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112
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123
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125
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128

Chapter 5 How Do Risk and Term Structure Affect Interest Rates?

129

Preview
Risk Structure of Interest Rates
Default Risk
Liquidity
case  The Global Financial Crisis and the Baa-Treasury Spread
Income Tax Considerations
Summary
case  Effects of the Bush Tax Cut and the Obama Tax Increase on Bond Interest Rates
Term Structure of Interest Rates
Following the Financial News  Yield Curves
Expectations Theory
Market Segmentation Theory
Liquidity Premium Theory
Evidence on the Term Structure
Summary

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14

Contents in Detail

Mini-Case  The Yield Curve as a Forecasting Tool for Inflation
and the Business Cycle
case  Interpreting Yield Curves, 1980–2013
The Practicing Manager  Using the Term Structure to Forecast Interest Rates
Summary
Key Terms
Questions
Quantitative Problems
Web Exercises



Chapter 6 Are Financial Markets Efficient?
Preview
The Efficient Market Hypothesis
Rationale Behind the Hypothesis
Evidence on the Efficient Market Hypothesis
Evidence in Favor of Market Efficiency

Mini-Case  An Exception That Proves the Rule: Raj Rajaratnam and Galleon
case  Should Foreign Exchange Rates Follow a Random Walk?
Evidence Against Market Efficiency
Overview of the Evidence on the Efficient Market Hypothesis
The Practicing Manager  Practical Guide to Investing in the Stock Market
How Valuable Are Published Reports by Investment Advisers?
Mini-Case  Should You Hire an Ape as Your Investment Adviser?
Should You Be Skeptical of Hot Tips?
Do Stock Prices Always Rise When There Is Good News?
Efficient Markets Prescription for the Investor
Why the Efficient Market Hypothesis Does Not Imply That Financial Markets
Are Efficient
case  What Do the Stock Market Crashes Tell Us About the Efficient
Market Hypothesis?
Behavioral Finance
Summary
Key Terms
Questions
Quantitative Problems
Web Exercises




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174

part three Fundamentals of Financial Institutions
Chapter 7 Why Do Financial Institutions Exist?
Preview

Basic Facts About Financial Structure Throughout the World
Transaction Costs
How Transaction Costs Influence Financial Structure
How Financial Intermediaries Reduce Transaction Costs
Asymmetric Information: Adverse Selection and Moral Hazard
The Lemons Problem: How Adverse Selection Influences Financial Structure
Lemons in the Stock and Bond Markets

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Contents in Detail

15

Tools to Help Solve Adverse Selection Problems
Mini-Case  The Enron Implosion
How Moral Hazard Affects the Choice Between Debt and Equity Contracts
Moral Hazard in Equity Contracts: The Principal–Agent Problem
Tools to Help Solve the Principal–Agent Problem
How Moral Hazard Influences Financial Structure in Debt Markets
Tools to Help Solve Moral Hazard in Debt Contracts
Summary
CASE  Financial Development and Economic Growth
Mini-Case  Should We Kill All the Lawyers?
CASE  Is China a Counter-Example to the Importance of Financial Development?
Conflicts of Interest
What Are Conflicts of Interest and Why Do We Care?
Why Do Conflicts of Interest Arise?
Mini-Case  The Demise of Arthur Andersen
Mini-Case  Credit Rating Agencies and the 2007–2009 Financial Crisis
What Has Been Done to Remedy Conflicts of Interest?
Mini-Case  Has Sarbanes-Oxley Led to a Decline in U.S. Capital Markets?
Summary
Key Terms
Questions
Quantitative Problems
Web Exercises

182
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188

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199
200
200
202
202
203
203
204
205

Chapter 8Why Do Financial Crises Occur and Why Are
They So Damaging to the Economy?
Preview
What Is a Financial Crisis?
Agency Theory and the Definition of a Financial Crisis
Dynamics of Financial Crises in Advanced Economies
Stage One: Initiation of Financial Crisis
Stage Two: Banking Crisis
Stage Three: Debt Deflation
CASE  The Mother of All Financial Crises: The Great Depression
Stock Market Crash

Bank Panics
Continuing Decline in Stock Prices
Debt Deflation
International Dimensions
CASE  The Global Financial Crisis of 2007–2009
Causes of the 2007–2009 Financial Crisis
Mini-Case  Collateralized Debt Obligations (CDOs)
Effects of the 2007–2009 Financial Crisis
Inside the Fed  Was the Fed to Blame for the Housing Price Bubble?
Global  The European Sovereign Debt Crisis
Height of the 2007–2009 Financial Crisis

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Summary
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Questions
Web Exercises
Web References



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part FOURCentral Banking and the Conduct of Monetary Policy
Chapter 9 Central Banks and the Federal Reserve System

Preview
Origins of the Federal Reserve System
Inside the Fed  The Political Genius of the Founders of the Federal
Reserve System
Structure of the Federal Reserve System
Federal Reserve Banks
Inside the Fed  The Special Role of the Federal Reserve
Bank of New York
Member Banks
Board of Governors of the Federal Reserve System
Inside the Fed  The Role of the Research Staff
Federal Open Market Committee (FOMC)
Why the Chair of the Board of Governors Really Runs the Show
Inside the Fed  The FOMC Meeting
Inside the Fed  Green, Blue, Teal, and Beige: What Do These
Colors Mean at the Fed?
Inside the Fed  How Bernanke’s Style Differs from Greenspan’s
How Independent Is the Fed?
Should the Fed Be Independent?
The Case for Independence
The Case Against Independence
Central Bank Independence and Macroeconomic
Performance Throughout the World
Explaining Central Bank Behavior
Inside the Fed  The Evolution of the Fed’s Communication Strategy
Structure and Independence of the European Central Bank
Differences Between the European System of Central Banks
and the Federal Reserve System
Governing Council
How Independent Is the ECB?

Structure and Independence of Other Foreign Central Banks
Bank of Canada
Bank of England
Bank of Japan
The Trend Toward Greater Independence
Summary
Key Terms
Questions
Web Exercises

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Chapter 10Conduct of Monetary Policy: Tools, Goals, Strategy,
and Tactics
Preview
The Federal Reserve’s Balance Sheet

Liabilities
Assets
Open Market Operations
Discount Lending
The Market for Reserves and the Federal Funds Rate
Demand and Supply in the Market for Reserves
How Changes in the Tools of Monetary Policy Affect the Federal Funds Rate
CASE  How the Federal Reserve’s Operating Procedures Limit Fluctuations in the
Federal Funds Rate
Conventional Monetary Policy Tools
Open Market Operations
Discount Policy and the Lender of Last Resort
Inside the Fed  A Day at the Trading Desk
Reserve Requirements
Interest on Reserves
Nonconventional Monetary Policy Tools and Quantitative Easing
Liquidity Provision
Inside the Fed  Fed Lending Facilities During the Global Financial Crisis
Asset Purchases
Quantitative Easing Versus Credit Easing
Management of Expectations: Commitment to Future Policy Actions
Monetary Policy Tools of the European Central Bank
Open Market Operations
Lending to Banks
Reserve Requirements
The Price Stability Goal and the Nominal Anchor
The Role of a Nominal Anchor
The Time-Inconsistency Problem
Other Goals of Monetary Policy
High Employment and Output Stability

Economic Growth
Stability of Financial Markets
Interest-Rate Stability
Stability in Foreign Exchange Markets
Should Price Stability Be the Primary Goal of Monetary Policy?
Hierarchical vs. Dual Mandates
Price Stability as the Primary, Long-Run Goal of Monetary Policy
Inflation Targeting
Advantages of Inflation Targeting
Disadvantages of Inflation Targeting
Global  The European Central Bank’s Monetary Policy Strategy
Inside the Fed  Ben Bernanke and the Federal Reserve Adoption
of Inflation Targeting

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Should Central Banks Respond to Asset-Price Bubbles? Lessons from the
Global Financial Crisis
Two Types of Asset-Price Bubbles
The Debate over Whether Central Banks Should Try to Pop Bubbles
Tactics: Choosing the Policy Instrument
Criteria for Choosing the Policy Instrument
The practicing manager  Using a Fed Watcher
Summary
Key Terms
Questions
Quantitative Problems
Web Exercises
Web Appendices


part five Financial Markets

Chapter 11 The Money Markets
Preview
The Money Markets Defined
Why Do We Need the Money Markets?
Money Market Cost Advantages
The Purpose of the Money Markets
Who Participates in the Money Markets?
U.S. Treasury Department
Federal Reserve System
Commercial Banks
Businesses
Investment and Securities Firms
Individuals
Money Market Instruments
Treasury Bills
Case  Discounting the Price of Treasury Securities to Pay the Interest
Mini-Case  Treasury Bill Auctions Go Haywire
Federal Funds
Repurchase Agreements
Negotiable Certificates of Deposit
Commercial Paper
Banker’s Acceptances
Eurodollars
Global  Ironic Birth of the Eurodollar Market
Comparing Money Market Securities
Interest Rates
Liquidity
How Money Market Securities Are Valued
Summary
Key Terms

Questions

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Quantitative Problems
Web Exercises


Chapter 12 The Bond Market

Preview
Purpose of the Capital Market
Capital Market Participants
Capital Market Trading
Types of Bonds
Treasury Notes and Bonds
Treasury Bond Interest Rates
Treasury Inflation-Protected Securities (TIPS)
Treasury STRIPS
Agency Bonds
CASE  The 2007–2009 Financial Crisis and the Bailout of Fannie
Mae and Freddie Mac
Municipal Bonds
Risk in the Municipal Bond Market
Corporate Bonds
Characteristics of Corporate Bonds
Types of Corporate Bonds
Financial Guarantees for Bonds
Current Yield Calculation
Current Yield
Finding the Value of Coupon Bonds
Finding the Price of Semiannual Bonds
Investing in Bonds
Summary
Key Terms
Questions
Quantitative Problems
Web Exercises

Chapter 13 The Stock Market
Preview
Investing in Stocks
Common Stock vs. Preferred Stock
How Stocks Are Sold
Computing the Price of Common Stock
The One-Period Valuation Model
The Generalized Dividend Valuation Model
The Gordon Growth Model
Price Earnings Valuation Method
How the Market Sets Security Prices
Errors in Valuation
Problems with Estimating Growth
Problems with Estimating Risk

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Problems with Forecasting Dividends
351
Case  The 2007–2009 Financial Crisis and the Stock Market
352
Case  The September 11 Terrorist Attack, the Enron Scandal, and the Stock Market 352
Stock Market Indexes
353
Mini-Case  History of the Dow Jones Industrial Average
353
Buying Foreign Stocks
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Regulation of the Stock Market
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The Securities and Exchange Commission
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Summary
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Key Terms
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Questions
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Quantitative Problems
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Web Exercises
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Chapter 14 The Mortgage Markets
Preview
What Are Mortgages?
Characteristics of the Residential Mortgage
Mortgage Interest Rates
Case  The Discount Point Decision
Loan Terms
Mortgage Loan Amortization
Types of Mortgage Loans
Insured and Conventional Mortgages
Fixed- and Adjustable-Rate Mortgages
Other Types of Mortgages
Mortgage-Lending Institutions
Loan Servicing
E-Finance  Borrowers Shop the Web for Mortgages
Secondary Mortgage Market
Securitization of Mortgages
What Is a Mortgage-Backed Security?
Types of Pass-Through Securities
Subprime Mortgages and CDOs

The Real Estate Bubble
Summary
Key Terms
Questions
Quantitative Problems
Web Exercises



Chapter 15 The Foreign Exchange Market
Preview
Foreign Exchange Market
What Are Foreign Exchange Rates?
Why Are Exchange Rates Important?
How Is Foreign Exchange Traded?

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Exchange Rates in the Long Run
Following the Financial News  Foreign Exchange Rates
Law of One Price

Theory of Purchasing Power Parity
Why the Theory of Purchasing Power Parity Cannot Fully Explain Exchange Rates
Factors That Affect Exchange Rates in the Long Run
Exchange Rates in the Short Run: A Supply and Demand Analysis
Supply Curve for Domestic Assets
Demand Curve for Domestic Assets
Equilibrium in the Foreign Exchange Market
Explaining Changes in Exchange Rates
Shifts in the Demand for Domestic Assets
Recap: Factors That Change the Exchange Rate
Case  Effects of Changes in Interest Rates on the Equilibrium Exchange Rate
Case  Why Are Exchange Rates So Volatile?
Case  The Dollar and Interest Rates
Case  The Global Financial Crisis and the Dollar
The practicing manager  Profiting from Foreign Exchange Forecasts
Summary
Key Terms
Questions
Quantitative Problems
Web Exercises



Chapter 15 Appendix   The Interest Parity Condition
Comparing Expected Returns on Domestic and Foreign Assets
Interest Parity Condition



Chapter 16 The International Financial System

Preview
Intervention in the Foreign Exchange Market
Foreign Exchange Intervention and the Money Supply
Inside the Fed  A Day at the Federal Reserve Bank of New York’s
Foreign Exchange Desk
Unsterilized Intervention
Sterilized Intervention
Balance of Payments
Global  Why the Large U.S. Current Account Deficit Worries Economists
Exchange Rate Regimes in the International Financial System
Fixed Exchange Rate Regimes
How a Fixed Exchange Rate Regime Works
The Policy Trilemma
Monetary Unions
Mini-Case  Will the Euro Survive?
Currency Boards and Dollarization
Global  Argentina’s Currency Board
Speculative Attacks
Managed Float

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Global Dollarization
422
Case  The Foreign Exchange Crisis of September 1992423
the practicing manager  Profiting from a Foreign Exchange Crisis
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Case  How Did China Accumulate over $3 Trillion of
International Reserves?
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Capital Controls
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Controls on Capital Outflows
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Controls on Capital Inflows
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The Role of the IMF
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Should the IMF Be an International Lender of Last Resort?
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How Should the IMF Operate?
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Summary
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Key Terms
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Questions
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Quantitative Problems
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Web Exercises
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Web Appendices
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part sixThe Financial Institutions Industry

Chapter 17 Banking and the Management
of Financial Institutions



Preview

The Bank Balance Sheet
Liabilities
Assets
Basic Banking
General Principles of Bank Management
Liquidity Management and the Role of Reserves
Asset Management
Liability Management
Capital Adequacy Management
The practicing manager  Strategies for Managing Bank Capital
Case  How a Capital Crunch Caused a Credit Crunch During the
Global Financial Crisis
Off-Balance-Sheet Activities
Loan Sales
Generation of Fee Income
Trading Activities and Risk Management Techniques
Conflicts of Interest  Barings, Daiwa, Sumitomo, Société Générale,
and J.P. Morgan Chase: Rogue Traders and the Principal–Agent Problem
Measuring Bank Performance
Bank’s Income Statement
Measures of Bank Performance
Recent Trends in Bank Performance Measures
Summary
Key Terms

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Questions
Quantitative Problems

Web Exercises


Chapter 18 Financial Regulation
Preview
Asymmetric Information and Financial Regulation
Government Safety Net
Global  The Spread of Government Deposit Insurance Throughout the World:
Is This a Good Thing?
Restrictions on Asset Holdings
Capital Requirements
Prompt Corrective Action
Financial Supervision: Chartering and Examination
Global  Where Is the Basel Accord Heading After the Global Financial Crisis?
Assessment of Risk Management
Disclosure Requirements
Consumer Protection
Mini-Case  Mark-to-Market Accounting and the Global Financial Crisis
Restrictions on Competition
Macroprudential Versus Microprudential Supervision
Mini-Case  The Global Financial Crisis and Consumer Protection Regulation
Summary
E-Finance  Electronic Banking: New Challenges for Bank Regulation
Global  International Financial Regulation
The 1980s Savings and Loan and Banking Crisis
Federal Deposit Insurance Corporation Improvement Act of 1991
Banking Crises Throughout the World in Recent Years
“Déjà Vu All Over Again”
The Dodd-Frank Bill and Wall Street Reform and Consumer
Protection Act of 2010

Dodd-Frank
Too-Big-to-Fail and Future Regulation
What Can Be Done About the Too-Big-to-Fail Problem?
Other Issues for Future Regulation
Summary
Key Terms
Questions
Quantitative Problems
Web Exercises
Web Appendices



Chapter 19 Banking Industry: Structure and Competition
Preview
Historical Development of the Banking System
Multiple Regulatory Agencies
Financial Innovation and the Growth of the Shadow Banking System

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