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Consider the following simplified example of a commercial bank, which is borrowing and lending funds...

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Accounting

Consider the following simplified example of a commercial bank, which is borrowing and lending funds of two maturities: short-term (1 year) and long-term (2 years), all zero-coupon. Loans consist of $40 million short term and $40 million long term, while liabilities are $60 million short term and $10 million long term. All numbers are in market value terms as of October 30, 2012. Hence, the bank's balance sheet is

Assets

Shorttermloans40,000,000

Longtermloans40,000,000

Totalloans80,000,000

Liabilities

Shorttermliabilities60,000,000 Longtermliabilities10,000,000

Totalliabilities70,000,000

Equity10,000,000

Totalequityandliabilities80,000,000

Assume that the yield curve as of October 30, 2012, is a flat solid line; Annual yields on assets and liabilities of all maturities are 10%. Now suppose that on October 31, 2012, the yield curve shifts parallel such that all yields rise to 12%.

A) What is the new balance sheet of the bank?

B) What is the impact of a parallel shift in the yield curve to the economic value of the bank?

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