CAT RC Practice Set-115

The function of capital markets is to facilitate an exchange of funds among all participants, and yet in practice we find that certain participants are not on a par with others. Members of society have varying degrees of market strength in terms of information they bring to a transaction, as well as of purchasing power and creditworthiness, as defined by lenders.

For example, within minority communities, capital markets do not properly fulfill their functions; they do not provide access to the aggregate flow of funds in the United States. The financial system does not generate the credit or investment vehicles needed for underwriting economic development in minority areas. The problem underlying this dysfunction is found in a rationing mechanism affecting both the available alternatives for investment and the amount of financial resources. This creates a distributive mechanism penalizing members of minority groups because of their socioeconomic differences from others. The existing system expresses definite socially based investment preferences that result from the previous allocation of income and that influence the allocation of resources for the present and future. The system tends to increase the inequality of income distribution. And, in the United States economy, a greater inequality of income distribution leads to a greater concentration of capital in certain types of investment.

Most traditional financial-market analysis studies ignore financial markets’ deficiencies in allocation because of analysts’ inherent preferences for the simple model of perfect competition. Conventional financial analysis pays limited attention to issues of market structure and dynamics, relative costs of information, and problems of income distribution. Market participants are viewed as acting as entirely independent and homogeneous individuals with perfect foresight about capital-market behavior. Also, it is assumed that each individual in the community at large has the same access to the market and the same opportunity to transact and to express the preference appropriate to his or her individual interest. Moreover, it is assumed that transaction costs for various types of financial instruments are equally known and equally divided among all community members.


Question: The main point made by the passage is that

  1. financial markets provide for an optimum allocation of resources among all competing participants by balancing supply and demand
  2. the allocation of financial resources takes place among separate individual participants, each of whom has access to the market
  3. the existence of certain factors adversely affecting members of minority groups shows that financial markets do not function as conventional theory says they function
  4. investments in minority communities can be made by the use of various alternative financial instruments, such as stocks and bonds
  5. since transaction costs for stocks, bonds, and other financial instruments are not equally apportioned among all minority-group members, the financial market is subject to criticism
Option: 3

Question: The passage states that traditional studies of the financial market overlook imbalances in the allocation of financial resources because

  1. an optimum allocation of resources is the final result of competition among participants
  2. those performing the studies choose an oversimplified description of the influences on competition
  3. such imbalances do not appear in the statistics usually compiled to measure the market’s behavior
  4. the analysts who study the market are unwilling to accept criticism of their methods as biased
  5. socioeconomic difference form the basis of a rationing mechanism that puts minority groups at a disadvantage
Option: 2

Question: The author’s main point is argued by

  1. giving examples that support a conventional generalization
  2. showing that the view opposite to the author’s is self-contradictory
  3. criticizing the presuppositions of a proposed plan
  4. showing that omissions in a theoretical description make it inapplicable in certain cases
  5. demonstrating that an alternative hypothesis more closely fits the data
Option: 4

Question: A difference in which of the following would be an example of inequality in transaction costs as alluded to in lines 40-43?

  1. Maximum amounts of loans extended by a bank to businesses in different areas
  2. Fees charged to large and small investors for purchasing stocks
  3. Prices of similar goods offered in large and small stores in an area
  4. Stipends paid to different attorneys for preparing legal suits for damages
  5. Exchange rates in dollars for currencies of different countries
Option: 2

Question: Which of the following can be inferred about minority communities on the basis of the passage?

  1. They provide a significant portion of the funds that become available for investment in the financial market.
  2. They are penalized by the tax system, which increases the inequality of the distribution of income between investors and wage earners.
  3. They do no receive the share of the amount of funds available for investment that would be expected according to traditional financial-market analysis.
  4. They are not granted governmental subsidies to assist in underwriting the cost of economic development.
  5. They provide the same access to alternative sources of credit to finance businesses as do majority communities.
Option: 3

Question: According to the passage, a questionable assumption of the conventional theory about the operation of financial markets is that

  1. creditworthiness as determined by lenders is a factor determining market access
  2. market structure and market dynamics depend on income distribution
  3. a scarcity of alternative sources of funds would result from taking socioeconomic factors into consideration
  4. those who engage in financial-market transactions are perfectly well informed about the market
  5. inequalities in income distribution are increased by the functioning of the financial market
Option: 4

Question: According to the passage, analysts have conventionally tended to view those who participate in financial market as

  1. judging investment preferences in terms of the good of society as a whole
  2. influencing the allocation of funds through prior ownership of certain kinds of assets
  3. varying in market power with respect to one another
  4. basing judgments about future events mainly on chance
  5. having equal opportunities to engage in transactions
Option: 5

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