Learning outcome: Explain the major changes to the U.S. financial market regulations as a result of Dodd-Frank .
Questions:
523.1. Although there is debate about the cause(s) of the 2007-08 credit crises, most commentators agree that the origin included irresponsible lending practices. In particular, many borrowers took on adjustable rate mortgages (ARMs) seduced by the initially low "teaser" rates, but they often were not able to subsequently refinance, as they had expected. Or worse, in some cases, borrowers did not understand their loan's complexity and the potential adjustments.
As Hull explains, "In order to continue to attract new entrants to the housing market, [mortgage brokers and mortgage lenders] had to find ways to relax their lending standards even more—and this is exactly what they did. The amount lent as a percentage of the house price increased. Adjustable rate mortgages (ARMs) were developed where there was a low teaser rate of interest that would last for two or three years and be followed by a rate that was much higher ... some borrowers with teaser rates found that they could no longer afford their mortgages when the teaser rates ended.
This led to foreclosures and an increase in the supply of houses for sale. The decline in house price fed on itself. Individuals who had borrowed 100%, or close to 100%, of the cost of a house found that they had negative equity (i.e., the amount owing on the mortgage was greater than the value of the house). Some of these individuals chose to default. This led to more foreclosures, a further increase in the supply of houses for sale, and a further decline in house prices."
How does Dodd-Frank primarily attempt to cure this problem of a lack of sufficient financial literacy among consumers such as those who want to finance the purchase of a home?
a. Regulates the phase-out of adjustable rate mortgages by 2019 and mandates the disclosure of annual percentage rates (APRs)
b. Expands the responsibilities of the Securities and Exchange Commission (SEC)
c. Creates the Consumer Financial Protection Bureau (CFPB)
d. Dodd-Frank does nothing explicitly to promote consumer protection, which is a popular criticism of the Act
523.2. The 2007-08 credit crisis brought widespread attention to the complex threat of systemic risk. Dodd-Frank attempts to confront systemic risk by doing each of the following EXCEPT which is not accurate?
a. Creates the new Financial Stability Oversight Council (FSOC) which will focus on identifying, monitoring and addressing systemic risks posed by large, complex financial firms
b. Creates the new Office of Financial Research (OFR) which helps to promote financial stability by looking across the financial system to measure and analyze risks, perform essential research, and collect and standardize financial data
c. Charges the FSOC and OFR with identifying systemically important financial institutions (SIFIs), which includes any bank in the United States with assets of more than $50 billion is a SIFI; FSOC has been given the authority to impose extra capital requirements on SIFIs
d. Requires Fannie Mae and Freddie Mac to implement their so-called living wills and thereby initiate liquidation of their mortgage loan portfolios with the long-term intention to privatize and consequently diversify these large portfolios, which should result in a dramatic reduction in systemic risk
523.3. John Hull explains that under the Dodd-Frank Act, "Proprietary trading and other similar activities of deposit taking institutions were curtailed. This is known as the 'Volcker rule' because it was proposed by former Federal Reserve chairman, Paul Volcker." According to Hull, what is the main difficultly with the Volker Rule?
a. The Volker rule is mired in complexity and runs over 70 pages
b. It is hard to distinguish between hedging and speculative trades
c. The Volker rule has not been drafted yet so it's basically "vaporware" without any consequence
d. It lacks support from key financial firms like Goldman Sachs, JP Morgan Chase, and Bank of America
Answers here:
Questions:
523.1. Although there is debate about the cause(s) of the 2007-08 credit crises, most commentators agree that the origin included irresponsible lending practices. In particular, many borrowers took on adjustable rate mortgages (ARMs) seduced by the initially low "teaser" rates, but they often were not able to subsequently refinance, as they had expected. Or worse, in some cases, borrowers did not understand their loan's complexity and the potential adjustments.
As Hull explains, "In order to continue to attract new entrants to the housing market, [mortgage brokers and mortgage lenders] had to find ways to relax their lending standards even more—and this is exactly what they did. The amount lent as a percentage of the house price increased. Adjustable rate mortgages (ARMs) were developed where there was a low teaser rate of interest that would last for two or three years and be followed by a rate that was much higher ... some borrowers with teaser rates found that they could no longer afford their mortgages when the teaser rates ended.
This led to foreclosures and an increase in the supply of houses for sale. The decline in house price fed on itself. Individuals who had borrowed 100%, or close to 100%, of the cost of a house found that they had negative equity (i.e., the amount owing on the mortgage was greater than the value of the house). Some of these individuals chose to default. This led to more foreclosures, a further increase in the supply of houses for sale, and a further decline in house prices."
How does Dodd-Frank primarily attempt to cure this problem of a lack of sufficient financial literacy among consumers such as those who want to finance the purchase of a home?
a. Regulates the phase-out of adjustable rate mortgages by 2019 and mandates the disclosure of annual percentage rates (APRs)
b. Expands the responsibilities of the Securities and Exchange Commission (SEC)
c. Creates the Consumer Financial Protection Bureau (CFPB)
d. Dodd-Frank does nothing explicitly to promote consumer protection, which is a popular criticism of the Act
523.2. The 2007-08 credit crisis brought widespread attention to the complex threat of systemic risk. Dodd-Frank attempts to confront systemic risk by doing each of the following EXCEPT which is not accurate?
a. Creates the new Financial Stability Oversight Council (FSOC) which will focus on identifying, monitoring and addressing systemic risks posed by large, complex financial firms
b. Creates the new Office of Financial Research (OFR) which helps to promote financial stability by looking across the financial system to measure and analyze risks, perform essential research, and collect and standardize financial data
c. Charges the FSOC and OFR with identifying systemically important financial institutions (SIFIs), which includes any bank in the United States with assets of more than $50 billion is a SIFI; FSOC has been given the authority to impose extra capital requirements on SIFIs
d. Requires Fannie Mae and Freddie Mac to implement their so-called living wills and thereby initiate liquidation of their mortgage loan portfolios with the long-term intention to privatize and consequently diversify these large portfolios, which should result in a dramatic reduction in systemic risk
523.3. John Hull explains that under the Dodd-Frank Act, "Proprietary trading and other similar activities of deposit taking institutions were curtailed. This is known as the 'Volcker rule' because it was proposed by former Federal Reserve chairman, Paul Volcker." According to Hull, what is the main difficultly with the Volker Rule?
a. The Volker rule is mired in complexity and runs over 70 pages
b. It is hard to distinguish between hedging and speculative trades
c. The Volker rule has not been drafted yet so it's basically "vaporware" without any consequence
d. It lacks support from key financial firms like Goldman Sachs, JP Morgan Chase, and Bank of America
Answers here:
