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Suppose the probability that one household withdraws

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§Suppose the probability that one household withdraws the deposit over the next year is20%. Assume household withdrawal needs are independent. What is the probabilitythat the FI will have at least 1000 AUD deposits? Which one is higher?1.2 households, each deposits 1000 AUD2.4 households, each deposits 500 AUD19
Benefit 3:FIs to addressprice riskuThe key to reduce the price risk isdiversification– investing in many differentfirms/industries at the same time.uMany household savers holdrelatively undiversified portfoliosdue to theirlimitedwealth.uBypooling funds from individual households, the FIs can invest in many differentfirms at the same time.§One key concern is to make sure thereturns on different investmentsarenegativelycorrelated(have anegative covariance, and we will talk about it later)20Benefit 4: FIs to addresstransaction costsuFIs collect small investors funds and invest in bulk(Economies of scale)uDue to their large size, FIs havemore bargaining powerand can conducttransactions much more efficiently and lower the average cost of transaction
FI’s Specialness - Summary21
Part 2Regulationof FIs
Forms of protection and regulationuSafety and Soundness RegulationFIs are required to diversify their assetscapital adequacy requirement to protect against unexpected lossesguaranty funds are set up by regulators, e.g. DIF for commercial banksperiodic monitoring and surveillanceuInvestor Protection Regulation§prevents insider trading§requires disclosureuConsumer Protection Regulation§prevents discrimination in lendinguMonetary Policy Regulation§requires minimum level of cash reserves§requires FIs to serve as an intermediation of monetary policyuCredit Allocation Regulation§supports FIs to provide lending to socially important sectors such as farming and housing§impose price and quantity restrictionsin such lendinguEntry Regulation§sets high direct costs, eg. Equity/capital requirements§sets high indirect costs, eg. Restrictions on who can establish FIs23
Financial regulators in AustraliauAPRA = Australian Prudential Regulation Authority.§Responsible for the prudential regulation and supervision of the financeservices industry.uASIC = Australia Securities and Investments Commission§Responsible for market integrity and consumer protection across the financialsystems.§Set standards for financial market behaviour with aim to protect investor andconsumer confidence.§Administers the Corporate Law to promote honesty and fairness incompanies and markets.uRBA = Reserve Bank of Australia§The central bank of Australia§Responsible for the development and implementation of monetary policyand for overall financial stability.24
Australian Regulation System (Cont.)25
Bailout Programs during Global Financial CrisisuUnited States§Emergency Economic Stabilization ActandTroubled Asset Relief Program§Big institutions bailed: Bear Stearns (sold to JP Morgan Chase), Merrill Lynch (sold toBank of America), Fannie Mae and Freddie Mac, American InternationalGroup,Washington Mutual (sold to JP Morgan Chase), CitigroupuUnited Kingdom§2008 United Kingdom bank rescue package§Big institutions bailed: Lloyds and Royal Bank of Scotland26A bailout is the provision of financial help to businesses or country when they arefacing severe failure risk (bankruptcy).

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Term
One
Professor
YIP
Tags
Economics, Depository Institutions, primary securities

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