{[ promptMessage ]}

Bookmark it

{[ promptMessage ]}

topic09_note - EC372 Bond and Derivatives Markets Topic#9...

Info iconThis preview shows pages 1–3. Sign up to view the full content.

View Full Document Right Arrow Icon
EC372 Bond and Derivatives Markets Topic #9: Financial Intermediation, I: Fundamentals R. E. Bailey Department of Economics University of Essex Outline Contents 1 Functions of Financial Intermediaries 1 2 Bank risks: a Balance Sheet Approach 2 2.1 Regulation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 3 Securitisation 4 4 A Screening Model of Bank Lending 6 Reading: Lecture notes (available in the CMR) 1 Functions of Financial Intermediaries Functions of Financial Intermediaries 1. Payments system – a mechanism for the transfer of cash, via bank deposits. 2. Risk sharing – dividing up the risks associated with large assets that would otherwise be indi- visible. 3. Risk pooling – by holding a portfolio of assets with imperfectly correlated returns, the inter- mediary can control the risks associated with its aggregate portfolio, thus offering its investors (e.g. depositors of banks) more secure returns. 4. Delegated monitoring – controls that serve to manage the incentives of borrowers, to ensure good behaviour 5. Dissemination of information – collecting and presenting information to guide investors in their decisions Financial intermediaries: banks and others Institutions evolve to perform the functions – adapt to changing circumstances, e.g. regulation, technology. 1
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
Banks exist in several varieties, with differing functions. ‘Commercial banks’ are typical: accept depositors funds, which are then loaned out (deposits commonly being repayable on demand but loans of several months, or years, duration). ‘In- vestment banks’ may not accept deposits at all but focus on providing services to corporations, e.g. arranging mergers, share-offerings, underwriting bond issues, organising take-over bids. Are (commercial) banks special? Creators of money? It is, at best, misleading to claim that banks are unique ‘creators of money’: their liabilities are widely accepted as a medium of exchange, a close substitute for state issued currency. Hence, banks’ actions can amplify or obstruct central bank monetary policy. It’s a gross over- simplification to assert that banks can create money. Other financial intermediaries include insurance companies, hedge funds, private equity funds, pension funds, even financial exchanges. They perform various functions. Thus, for example, insurance companies carry out risk sharing, among other functions. 2 Bank risks: a Balance Sheet Approach Banks’ Balance Sheets Why look at a bank’s ‘Balance Sheet’? – useful way of classifying risks of financial distress. Liabilities: Net Worth – shareholders’ equity Net Worth is what’s left over after subtracting the bank’s obligations from its assets; hence what is ‘owed’ to the bank’s owners, or its ‘capital’; also interpreted as the ‘value of the bank’, noting that it’s the ‘book value’ (estimated from the accounts) rather than the ‘market value’ (which reflects shareholders’ estimates of the worth of the firm).
Background image of page 2
Image of page 3
This is the end of the preview. Sign up to access the rest of the document.

{[ snackBarMessage ]}