Question

Which of the following is INCORRECT about the role of maturity transformation in depository institutions?

a. The process of converting short-term liabilities into longer term assets is known as maturity transformation.

b. Maturity transformation involves borrowing short and lending long.

c. A low interest rate to lenders is exchanged for a higher interest rate to borrowers.

d. Retaining a large pool of highly liquid assets is part of the key to maturity transformation. e. It is only net outflows against which intermediaries need to hold liquid assets as reserves.

Answer 1

Maturity transformation happens when Banks take short duration deposits and convert them to large maturity loans. These are basically done to meet the requirements of lenders and borrowers.

So, a) and b) are correct

Also, generally banks give less interest on deposits and charge more from borrowers. So c) is also correct

Now, banks are required to hold some assets in liquid form to meet the normal demand for cash. These liquid assets are not very huge as compared to total assets size. Hence, d) is incorrect and e) is correct

Option d) is INCORRECT