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Sensitivity of Loans and Deposits to Interest Rates

This assignment will demonstrate the sensitivity of loans and deposits to changes in interest rates (price elasticity of demand) and its impact on discount window advances. The basic bank in ProBanker has the following features.

1. Demand for loans will increase if interest rates are reduced (some customers will remain loyal but others will take the opportunity of the lower rates).
2. Supply of deposits will increase if interest rates are increased (some customers will remain loyal but others will take the opportunity of the higher rates).

• If loan demand exceeds available funds (from deposits, CDs and equity), the program will force banks to borrow from the central bank through the discount window advances at a penalty rate.
• Federal funds are short term loans between banks that can be used to cover shortfalls in funding and prevent a bank from accessing the discount window.

Please note that in Autosim you are playing solo against the computer. If you are in a competitive game, the results can be different because demand and supply are affected by the decisions of your competitors.

Assignment 2:

2. Create a personal Autosim.
   1. Click on Games.
   2. Click on New Autosim game.
   3. Select Assignments Regional Bank template in using template.
      Note: Make sure NOT to choose Sample Regional Bank
   4. Type a name for the new Autosim in New game’s name
   5. Example “Ariel Foster Assignment 2”
   6. Click on Create Game
   7. You can create as many Autosims as you wish
3. Input decisions to your new Autosim. There are five categories of decisions – Bank Treasury, Asset-other, Asset-loans, Liabilities-deposits, Bank-general.

We will reduce interest rates of all our loans by 0.3% to increase the demand for loans.  To fund this expected increase in loan demand, we will increase the interest rates offered on all our deposits by 1%. We then simulate the game and examine the changes from quarter 0 to quarter 1.

Click on ProBanker icon on the top left to go to the home page (i.e. your dashboard). Alternatively,

1. Click on Autosim games from left menu on your dashboard.
2. Select your newly created Autosim.
3. Click on Play bank.
4. Input and update Decisions (by following step 3 thorough 7 below)
5. Remember click Save before you go to next category from the left menu for “Edit Decisions”.

Bank Treasury – change the following:

1. 1. Federal Funds Purchased (not Sold) = $50,000
   2. 360 Days CDs to Issue = $50,000
   3. The remaining boxes should all be zeroes.
2. Asset-other – change the following:
   1. New Bonds to Purchase = $15,000
   2. New provision for loan losses                               = $500
   3. Planned required reserves = $25,000

5. Asset-loans – change the following: reduce all loan rates by 0.3%
   1. Floating-rate loans

Reduce Floating Rate Loan Spread to 3.7 and leave standards as is (0).

1. Fixed-rate loans

Reduce Fixed Rate Corporate Loan Rate to 9 and leave standards as is (0).

1. Installment Loans

Reduce Installment Loan Rate to 10.7 leave advertising as 150.

1. Mortgage loans

Reduce Mortgage Loan Rate to 8.7 and leave advertising as 80

6. Liabilities-deposits – change the following: Increase all deposit rates by 1%
   1. Corporate demand deposit, leave as is (0, 580, 100) respectively.
   2. Retail demand deposit, leave as is (0, 410, 100) respectively.
   3. Retail savings

Increase rate to 6 and leave advertising as 140.

1. Long-term retail deposits

Increase rate to 8.5, leave advertising as 60

1. Retail CDs

Increase rate to 7, leave advertising as 290

7. Bank-general – change the following:

Leave as is (0, 0)

8. Simulate next period (on top of the screen). After a few seconds, you will notice a flicker and it should say End of Period 1. You are ready to review the results.
9. Record the results of quarter 1 in the shaded cells of table below by clicking on Reports. Alternatively, you can copy and paste from the Excel file ‘Download full reports’ in Excel. Estimate the percent change from Q₀ to Q₁ in the shaded boxes and answer the questions below. Consult the ProBanker manual for additional explanations on the variables.
10. Rates on fixed, floating, installment and mortgage loans were reduced by 0.3 percent (from 9.3% to 9.0% etc.). Which loans were impacted the most and which the least?
11. Rates on passbook deposits, retail CDs and long-term retail deposits were increased by 1%. Which deposits were impacted the most and which the least?
12. You put in $25,000 for reserve requirements. Why is the reserve requirement showing a different number? Explain. Also explain the numbers under “excess reserves” and “discount window advances.”
13. There are no interest rates for retail and corporate demand deposits. What likely factors can explain the change in volume of deposits?

Now you are ready to simulate it for Quarter 2 by changing the following input decisions (i.e. step 10 through 14). Remember to save (whether inputs are changed or not) after each of the steps. Input decisions for quarter 2 simulation as given below:

10. Bank Treasury – change the following:
    1. Federal Funds Purchased (not Sold) = $50,000
    2. 90-day CDs to issue = $25,000
    3. 180-day CDs to issue = $25,000
    4. 360 Days CDs to Issue = $50,000
    5. The remaining boxes should all be zeroes.

11. Asset-other – change the following:
    1. New Bonds to Purchase = $15,000
    2. New provision for loan losses = $500
    3. Planned required reserves = $25,000

12. Asset-loans – change the following: Reduce all loan rates by additional 0.3%
    3. For Decisions: Floating-rate loans, Reduce Floating Rate Loan Spread to 3.4 and leave standards as is 0
    4. For Decisions: Fixed-rate loans, Reduce Fixed Rate Corporate Loan Rate to 8.7 and leave standards as is 0
    5. For Decisions: Installment Loans, Reduce Installment Loan Rate to 10.4 leave advertising as 150.
    6. For Decisions: Mortgage loans, Reduce Mortgage Loan Rate to 8.4 and leave advertising as 80

13. Liabilities-deposits – change the following: Increase all deposit (except demand deposits) rates by additional 1%
    1. For Decisions: Corporate demand deposit, leave as is (0, 580, 100) respectively.
    2. For Decisions: Retail demand deposit, leave as is (0, 410, 100) respectively.
    3. For Decisions: Retail savings, increase rate to 7 and leave advertising as 140.
    4. For Decisions: Long-term retail deposits, increase rate to 9.5, leave advertising as 60
    5. For Decisions: Retail CDs, increase rate to 8, leave advertising as 290
14. Bank-general – change the following:

Leave as is (0, 0)

15. Simulate next period (on top of the screen). After a few seconds, you will notice a flicker and it should say End of Period 2. You are ready to review the results.

16. Record the results of quarter 2 in the shaded cells of table below by clicking on Reports. Alternatively, you can copy and paste from the Excel file ‘Download full reports’ in Excel. Estimate the percent change from Q₁ to Q₂ in the shaded boxes and answer the questions below. Consult the ProBanker manual for additional explanations on the variables.

• Rates on fixed, floating, installment and mortgage loans were reduced further by 0.3 percent. Which loans were impacted the most and which the least?
• Rates on passbook deposits, retail CDs and long-term retail deposits were increased by 1%. Which deposits were impacted the most and which the least?
• Were the reserve requirements sufficient? Explain the numbers under “Excess reserves” and “Discount window advances.”