Commercial banking services
Individual Banking
Business Banking
Digital Banking
Deposit accounts, give loans, basic investment services such as savings accounts
Investment banks
- Function as a underwriter/agent in the issuance of securities
- Help (mainly) businesses and corporations to raise capital
Interbank market (what, rate, purpose)
- Debt market among banks
- use FED (US), LIBOR (UK) and Euribor (Eurozone).
a) Manage liquidity - Banks may need to borrow money from other banks on a short-term basis to meet their own liquidity needs.
b) and satisfy regulations (such as reserve)
Central banks main tasks
a) Control nation’s money supply (OMO, interest rates, reserve)
b) Oversee commercial banks (reserve)
How does central banks control the money supply
a) Open Market Operations: Buy or sell government securities in the open market. BUY = liquidity injection. SELL = liquidity withdrawal
b) Reserve Requirements: Higher requirement, less capital. By adjusting, central banks can control the amount of money banks have available to lend
c) Lender of Last Resort: Act as a lender of resort during hard financial times
(IKKE PENSUM):
d) Interest rate: Set rate that banks can borrow from other banks and central bank. Courage or discourage banks from borrowing, which in turn affects amount of money in economy
Commercial versus IB
- Deposits: IB does not take
- Regulation and freedom: IB can take more risk. Commercial banks are more regulated to protect the customer
- Insurance: Commercial banks are insured by the federal government
Credit Union
- Offer same services as banks
- When you invest in a credit union, you get ownership in the union. Banks are normally owned by investor, which does not need to have money in that bank.
- Not-for profit organization, but not for charity.
Revolving lines of Credit
A revolving line of credit is a type of loan that allows you to borrow money when you need it and pay interest only on what you borrow. Then, if you pay back any of the borrowed funds before the end of the draw period, you can borrow that money again.
C&I loan market
- Commercial & Industrial Loans
- To business or corporation for operational purposes: Working Capital or CAPEX.
- Made due to operational purposes
- Always collateral
Government Housing policy pre 2008
a) Fannie Mae & Freddie Mac (GSEs)
To provide liquidity for banks
Due to the low interest rate, a lot of the banks liquidity was lended away in exchange for mortgages. They created a pool of mortages, which they sold to private investors. The investors would then receive the interest payment on the mortage
b) LMIs:
Started first in 1977
Congress started program to expand mortgage lending to minorities and low- and moderate-income groups.
Gave away “affordable housing loans
Goal was to push home ownership higher
Pushed the credit standards lower
c) Subprime Loans
Loans to borrowers with poor credit scores
Conventional down payment declined from 20% to 3.5%
What was the LIBOR scandal
- 2012.
- Banks manipulated the interest rates. Falsely inflating or deflating their rates. They did this because they wanted to:
a) Profit from trading
b) Impression of creditworthiness
How did many financial institutions survice during/after the financial crisis? Come with an example.
- Bailout of banks by national governments
- Northern Rock was nationalized
What are the main reason for the past financial crisis?
a) The Low FED rate
b) Government Housing Policy
c) Soaring risk from securitization
- Why (and what) was the Federal Funds Rate so low before the financial crisis?
a) Dot-com bubble busted 2001
b) Japanese stagnation in the 90s
c) Concerns about inflation
* 1% until 2004, combined with 2% inflation. Hence, a negative real rate
What happened in the house market due to the easy ways to get funding?
a) Household debt increased
b) Housing prices increased
What is securitization? How was it manipulated and sold?
- When assets are pooled so that they can be repackaged into interest-bearing securities.
- They put the lower tranches into a new pool and combined them with the tranches of a hundres other pools
- Sold as “reasonably safe securities”: The borrowers was diversified acrss geographical regions and economics
Pros and cons with securitization
- Makes market more efficient
- Gets more complicated and difficult to price and monitor (regulate). Hence, it is more risky
What is TARP
TARP stands for Troubled Asset Relief Program, which was a program created by the U.S. government in 2008 in response to the financial crisis. TARP was designed to stabilize the financial system and prevent a collapse of the banking system by providing financial assistance to banks and other financial institutions.
- Troubled Asset Relief Program.
- Created by US government in 2008 in response to financial crisis
- TARP was designed to stabilize the financial system and prevent a collapse of the banking system by providing financial assistance to banks and other financial institutions.
- TARP bought troubled companies assets and stock
Why is a bank run so risky?
- Many bank customers withdraw their deposits
- This increases probability of default
- This makes even more people withdraw money
- In extreme cases, the bank reserves might not be enough to cover the withdrawals
Largest bankruptcy filing in history? How big was they? Why were they so vulnerable?
- Lehman Brothers (IB)
- Assets: $639 million
- Debt: $619 million
a) High degree of leverage
b) Huge portfolio of mortgage securities
What is a repo and what is a run on repo?
- Repo: Repurchase agreement
- Run on repo:
Traditional banks are driven by withdrawal on deposits.
A securitized bank is driven by the withdrawal of repurchase agreements (“repos”)
What happened after the collapse of Lehman brothers?
- Triggered a run on repos in the interbank market and a run in the stock market.
- Both markets collapsed in the following month, starting the most serious financial crisis since the Great Depression in the 1930s
What is the “too big to fail” theory?
- Certain corporations and particularly financial institutions are so large and interconnected that their failure would be terrible for the greater economic system.
- Hence, they should be supported by the government when they face potential failure
2 of the different types of typical government interventions (injections)?
a) Liquidity injection (asset purchase, debt guarantee, direct debt)
b) Equity injection
