Question

happy bank starts with $200 in bank capital. it then takes in $1,000 in deposits. it keeps 15 percent of deposits in reserve. it uses the rest of its assets to make bank loans. complete the following balance sheet for happy bank. happy bank assets liabilities reserves $__ deposits $___ loans $__ bank capital $__ happy bank's leverage ratio is ___. suppose that some of the borrowers from happy bank default, making 8 percent of its bank loans worthless. complete happy bank's new balance sheet. happy bank reserves $__ deposits $___ loans $__ bank capital $__ happy bank's leverage ratio is ___. the bank's total assets decline by ____% , and the bank's capital declines by ___% .

Answer 1

The initial leverage ratio for Happy Bank was 6, and after defaults on loans, it rose to approximately 8.61. The bank's total assets and capital declined by approximately 5.67% and $68 respectively.

Step-by-step explanation:

Let's begin by completing the initial balance sheet for Happy Bank. The bank starts with $200 in bank capital and $1,000 in deposits. It must hold 15% of the deposits as reserves, which is $150 (0.15 x $1,000). The rest of the deposits can be used for loans, which amounts to $850 ($1,000 - $150). So, the completed balance sheet looks like this:

Reserves: $150

Deposits: $1,000

Loans: $850

Bank Capital: $200

The leverage ratio is calculated by dividing total assets by bank capital, which gives us ($1,000 + $200) / $200 = 6.

When 8% of the loans become worthless, the value of loans declines by $68 (0.08 x $850). The new balance sheet after the default will have:

Reserves: $150

Deposits: $1,000

Loans: $782 (originally $850 - $68)

Bank Capital: $132 (originally $200 - $68)

The new leverage ratio becomes ($1,000 + $132) / $132 = approximately 8.61.

The bank's total assets decline by $68/$1,200 = approximately 5.67% and the bank's capital declines by 8% ($68 from the initial $850 in loans).