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Solution Manual For M and B 3 3rd Edition Dean Croushore 1285167961 9781285167961
Solution Manual For M and B 3 3rd Edition Dean Croushore 1285167961 9781285167961
1285167961 9781285167961
CHAPTER 2
A. Introduce basic ideas behind bond, stock and other financial markets (Chapter 2), money and the
payments system (Chapter 3), the present-value formula (Chapter 4), the structure of interest rates
(Chapter 5), real interest rates (Chapter 6), and stocks and other assets (Chapter 7).
Goals of Chapter 2
TEACHING NOTES
A. Introduction
1. Borrowing and lending is valuable to an individual and to the society as a whole
2. The financial system consists of securities, intermediaries, and markets that exist to match
savers and borrowers
3. Figure 2.1 illustrates the components of financial system
4. This chapter introduces the financial system and explains why it is an essential part of a well-
functioning economy
B. Financial Securities
Definition of Financial Securities
1. Debt and Equity
a) Define a debt security and an equity security (stock)
b) How much debt and equity exist in the U.S.? Use Figure 2.2
c) Who issues debt and equity? Use Figure 2.3
d) Who owns debt and equity? Define investor and use Figure 2.4
2. Differences Between Debt and Equity
a) Maturity; define principal
b) Type of payment being made (interest versus dividends)
c) Bankruptcy
d) Use Table 2.1 for the differences between debt and equity
e) Differences exist because borrowers and lenders have different needs
C. Matching Borrowers with Lenders
1. Direct versus Indirect Finance
a) Definitions
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Chapter 2: The Financial System and the Economy 11
b) Example; use Figure 2.5 for the differences between direct and indirect finance
2. Financial Intermediaries
a) Different types
b) How average people use them
3. Functions of Financial Intermediaries
a) Help savers through diversification
b) Pool funds of many people
c) Take short-term deposits and make long-term loans
d) Gather information
e) Reduce the costs of financial transactions
D. Financial Markets
1. The Structure of Financial Markets
a) What is a financial market?
b) Do financial markets have a physical location?
c) Markets for new securities (primary market) and existing securities (secondary market); use
Figure 2.6
2. How Financial Markets Determine Prices of Securities
a) Supply and demand determine prices
b) Examples of determining equilibrium; use Figure 2.7
c) Prices of securities affected by changes in supply and demand; use Figure 2.8
E. The Financial System
1. The Financial System and Economic Growth
a) Firms need to borrow to grow
b) A country with an efficient financial system makes loans available to firms, so they can grow
c) The strength of a country’s financial system is correlated with its growth rate
2. What Happens When the Financial System Works Poorly?
a) The Asian Crisis
(1) The poor performance of Asian economies, beginning in 1997, was caused by a number
of problems and exacerbated by weak accounting systems
(2) Good accounting standards are needed so investors can assess the value of their securities
b) The Savings and Loan Crisis
(1) U.S. savings and loan (S&L) institutions began failing in large numbers in the 1980s
(2) S&L losses were magnified when the government failed to close bankrupt S&Ls
c) Mortgages and Housing
(1) Home ownership is easy to obtain in the United States because the financial system is well
developed
(2) In countries with less developed financial systems, homeownership is more difficult,
requiring greater savings, so people do not own homes until later in their lives
(3) Since 2008, it has become difficult for prospective home buyers to obtain a mortgage loan.
d) The Financial Crisis of 2008
(1) The expectation of constantly rising housing prices was caused in part by subprime
lending
(2) When home prices dropped in 2007, the market for mortgage-backed securities crashed
(3) A global financial crisis required governments and central banks to provide bailouts
(4) Unregulated financial firms need to be prevented from growing so large that they are too
big to fail; government regulators need to respond more quickly to risky financial practices
(5) Dodd-Frankly Act gave more power to government regulators
F. Application to Everyday Life: What Do Investors Care About?
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Chapter 2: The Financial System and the Economy 12
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Chapter 2: The Financial System and the Economy 13
1. Add a more detailed discussion of diversification. You could start by asking this question: Why is it
usually better for an investor to own 100 different stocks rather than one? Then you could cite
research that suggests that having about twenty stocks from different industries reduces most ofthe
idiosyncratic risk to a portfolio.
2. To expand on the discussion of risk and return, you can draw bell-shaped curves that describe the
distribution of returns to a stock. After drawing the basic curve, you can illustrate a variety of
concepts. Show a mean-preserving spread by drawing two distributions with the same expected
return but different risks, and ask which one an investor would prefer. Then show that if the
security with more risk has a higher expected return; some investors will prefer one and other
investors will prefer the other.
3. You can introduce the idea of a portfolio-possibilities line by drawing a diagram showing risk on the
horizontal axis and expected return on the vertical axis. The upward sloping portfolio-possibilities
line shows the trade-off that investors face between risk and expected return. Some investors will
prefer to be on the left side of the line, with low risk and low expected return; other investors will
prefer to be further to the right on the line, accepting greater risk in return for increased expected
return. No spot on the line is correct for everyone; a person’s preference towards risk determines
her or his optimal position.
Numerical Exercises
E= p 1X 1 + p 2X 2
= (0.50 × 0.00) + (0.50 × 0.50)
= 0.00 + 0.25
= 0.25
= 25%
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Diogĕnia, a daughter of Celeus. Pausanias, bk. 1, ch. 38.――A daughter
of the Cephisus, who married Erechtheus. Apollodorus.
Diŏmēdes, son of Tydeus and Deiphyle, was king of Ætolia, and one of
the bravest of the Grecian chiefs in the Trojan war. He engaged
Hector and Æneas, and by repeated acts of valour obtained much
military glory. He went with Ulysses to steal the Palladium from the
temple of Minerva at Troy; and assisted in murdering Rhesus king of
Thrace, and carrying away his horses. At his return from the siege of
Troy, he lost his way in the darkness of the night, and landed in
Attica, where his companions plundered the country, and lost the
Trojan Palladium. During his long absence, his wife Ægiale forgot
her marriage vows, and prostituted herself to Cometes, one of her
servants. This lasciviousness of the queen was attributed by some to
the resentment of Venus, whom Diomedes had severely wounded in
the arm in a battle before Troy. The infidelity of Ægiale was highly
displeasing to Diomedes. He resolved to abandon his native country,
which was the seat of his disgrace, and the attempts of his wife to
take away his life, according to some accounts, did not a little
contribute to hasten his departure. He came to that part of Italy which
has been called Magna Græcia, where he built a city called Argyripa,
and married the daughter of Daunus the king of the country. He died
there in extreme old age, or, according to a certain tradition, he
perished by the hand of his father-in-law. His death was greatly
lamented by his companions, who in the excess of their grief were
changed into birds resembling swans. These birds took flight into a
neighbouring island in the Adriatic, and became remarkable for the
tameness with which they approached the Greeks, and for the horror
with which they shunned all other nations. They are called the birds
of Diomedes. Altars were raised to Diomedes, as to a god, one of
which Strabo mentions at Timavus. Virgil, Æneid, bk. 1, li. 756;
bk. 11, li. 243, &c.—Ovid, Metamorphoses, bk. 14, fable 10.—
Apollodorus, bk. 1, ch. 8; bk. 3, ch. 7.—Hyginus, fables 97, 112, &
113.—Pausanias, bk. 2, ch. 30.――A king of Thrace, son of Mars
and Cyrene, who fed his horses with human flesh. It was one of the
labours of Hercules to destroy him; and accordingly the hero,
attended with some of his friends, attacked the inhuman tyrant, and
gave him to be devoured by his own horses, which he had fed so
barbarously. Diodorus, bk. 4.—Pausanias, bk. 3, ch. 18.—
Apollodorus, bk. 2, ch. 5.――A friend of Alcibiades. Plutarch,
Alcibiades.――A grammarian.
Diræ, the daughters of Acheron and Nox, who persecuted the souls of
the guilty. They are the same as the furies, and some suppose they are
called Furies in hell, Harpies on earth, and Diræ in heaven. They
were represented as standing near the throne of Jupiter, in an attitude
which expressed their eagerness to receive his orders, and the power
of tormenting the guilty on earth with the most excruciating
punishments. Virgil, Æneid, bk. 4, li. 473; bk. 8, li. 701.
Dircenna, a cold fountain of Spain, near Bilbilis. Martial, bk. 1, ltr. 50,
li. 17.
Dis, a god of the Gauls, the same as Pluto the god of hell. The
inhabitants of Gaul supposed themselves descended from that deity.
Cæsar, Gallic War, bk. 6.—Tacitus, Histories, bk. 4, ch. 84.
Divi, a name chiefly appropriated to those who were made gods after
death, such as heroes and warriors, or the Lares and Penates, and
other domestic gods.
Dium, a town of Eubœa, where there were hot baths. Pliny, bk. 31,
ch. 2.――A promontory of Crete.――A town of Macedonia. Livy,
bk. 44, ch. 7.
Docĭlis, a gladiator at Rome, mentioned by Horace, bk. 1, ltr. 18, li. 19.
Dolichaon, the father of the Hebrus, &c. Virgil, Æneid, bk. 10, li. 696.
Dŏlon, a Trojan, son of Eumedes, famous for his swiftness. Being sent
by Hector to spy the Grecian camp by night, he was seized by
Diomedes and Ulysses, to whom he revealed the situation, schemes,
and resolutions of his countrymen, with the hopes of escaping with
his life. He was put to death by Diomedes, as a traitor. Homer, Iliad,
bk. 10, li. 314.—Virgil, Æneid, bk. 12, li. 349, &c.――A poet. See:
Susarion.
Dŏlŏpia, the country of the Dolopes, near Pindus, through which the
Achelous flowed.
Domidūcus, a god who presided over marriage. Juno also was called
Domiduca, from the power she was supposed to have in marriages.
Dŏnȳsa, one of the Cyclades in the Ægean, where green marble is found.
Virgil, Æneid, bk. 3, li. 125.
Dorĭcus, an epithet applied not only to Doris, but to all the Greeks in
general. Virgil, Æneid, bk. 2, li. 27.
Doriscus, a place of Thrace near the sea, where Xerxes numbered his
forces. Herodotus, bk. 7, ch. 59.
Dorso Caius Fabius, a Roman who, when Rome was in the possession
of the Gauls, issued from the Capitol, which was then besieged, to go
and offer a sacrifice, which was to be offered on mount Quirinalis.
He dressed himself in sacerdotal robes, and carrying on his shoulders
the statues of his country gods, passed through the guards of the
enemy, without betraying the least signs of fear. When he had
finished his sacrifice, he returned to the Capitol unmolested by the
enemy, who were astonished at his boldness, and did not obstruct his
passage or molest his sacrifice. Livy, bk. 5, ch. 46.
Dōrus, a son of Hellen and Orseis, or, according to others, of Deucalion,
who left Phthiotis, where his father reigned, and went to make a
settlement with some of his companions near mount Ossa. The
country was called Doris, and the inhabitants Dorians. Herodotus,
bk. 1, ch. 56, &c.――A city of Phœnicia, whose inhabitants are
called Dorienses. Pausanias, bk. 10, ch. 24.
Drapes, a seditious Gaul, &c. Cæsar, Gallic War, bk. 8, ch. 30.
Drapus, a river of Noricum, which falls into the Danube near Mursa.
Drimăchus, a famous robber of Chios. When a price was set upon his
head, he ordered a young man to cut it off and go and receive the
money. Such an uncommon instance of generosity so pleased the
Chians, that they raised a temple to his memory, and honoured him as
a god. Athenæus, bk. 13.
Druĭdæ, the ministers of religion among the ancient Gauls and Britons.
They were divided into different classes, called the Bardi, Eubages,
the Vates, the Semnothei, the Sarronides, and the Samothei. They
were held in the greatest veneration by the people. Their life was
austere and recluse from the world, their dress was peculiar to
themselves, and they generally appeared with a tunic which reached
a little below the knee. As the chief power was lodged in their hands,
they punished as they pleased, and could declare war and make peace
at their option. Their power was extended not only over private
families, but they could depose magistrates and even kings, if their
actions in any manner deviated from the laws of the state. They had
the privilege of naming the magistrates which annually presided over
their cities, and the kings were created only with their approbation.
They were entrusted with the education of youth, and all religious
ceremonies, festivals, and sacrifices were under their peculiar care.
They taught the doctrine of the metempsychosis, and believed the
immortality of the soul. They were professionally acquainted with
the art of magic, and from their knowledge of astrology they drew
omens and saw futurity revealed before their eyes. In their sacrifices
they often immolated human victims to their gods, a barbarous
custom which continued long among them, and which the Roman
emperors attempted to abolish, to little purpose. The power and
privileges which they enjoyed were beheld with admiration by their
countrymen, and as their office was open to every rank and every
station, there were many who daily proposed themselves as
candidates to enter upon this important function. The rigour,
however, and severity of a long noviciate deterred many, and few
were willing to attempt a labour, which enjoined them during 15 or
20 years to load their memory with the long and tedious maxims of
druidical religion. Their name is derived from the Greek word δρυς,
an oak, because the woods and solitary retreats were the places of
their residence. Cæsar, Gallic War, bk. 6, ch. 13.—Pliny, bk. 16,
ch. 44.—Diodorus, bk. 5.
Druna, the Drome, a river of Gaul, falling into the Rhone.
Drūso, an unskilful historian and mean usurer, who obliged his debtors,
when they could not pay him, to hear him read his compositions, to
draw from them praises and flattery. Horace, bk. 1, satire 3, li. 86.
Dryădes, nymphs that presided over the woods. Oblations of milk, oil,
and honey were offered to them, and sometimes the votaries
sacrificed a goat. They were not generally considered immortal, but
as genii, whose lives were terminated with the tree over which they
were supposed to preside. Virgil, Georgics, bk. 1, li. 11.
Dubis, or Alduadubis, the Daux, a river of Gaul, falling into the Saone.
Dumnōrix, a powerful chief among the Ædui. Cæsar, Gallic War, bk. 1,
ch. 9.
Duris, an historian of Samos, who flourished B.C. 257. He wrote the life
of Agathocles of Syracuse, a treatise on tragedy, a history of
Macedonia, &c. Strabo, bk. 1.
Durius, a large river of ancient Spain, now called the Douro, which falls
into the ocean, near modern Oporto in Portugal, after a course of
nearly 300 miles. Silius Italicus, bk. 1, li. 234.
Dusii, some deities among the Gauls. Augustine, The City of God,
bk. 15, ch. 23.
Dy̆mæ, a town of Achaia. Livy, bk. 27, ch. 31; bk. 32, ch. 22.—
Pausanias, bk. 7, ch. 17.
Dy̆mas, a Trojan, who joined himself to Æneas when Troy was taken,
and was at last killed by his countrymen, who took him to be an
enemy because he had dressed himself in the armour of one of the
Greeks whom he had slain. Virgil, Æneid, bk. 2, lis. 340 &
428.――The father of Hecuba. Ovid, Metamorphoses, bk. 11, li. 761.
Dȳnămĕne, one of the Nereides. Homer, Iliad, bk. 18, li. 43.
Dyras, a river of Trachinia. It rises at the foot of mount Œta, and falls
into the bay of Malia. Herodotus, bk. 7, ch. 198.
Dyraspes, a river of Scythia. Ovid, ex Ponto, bk. 4, poem 10, li. 54.