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lec6 Presentation Transcript

  • 1. Chapter 9, goals
    • Understand the 4 different goals of bank management
      • Liquidity management
      • Asset management
      • Liability management
      • Capital adequacy management
  • 2.  
  • 3. Basic Banking—Cash Deposit
    • Opening of a checking account leads to an increase in the bank’s reserves equal to the increase in checkable deposits
    +$100 Checkable deposits +$100 Reserves +$100 Checkable deposits +$100 Vault Cash Liabilities Assets Liabilities Assets First National Bank First National Bank
  • 4. Basic Banking—Check Deposit -$100 Checkable deposits -$100 Reserves +$100 Checkable deposits +$100 Reserves Liabilities Assets Liabilities Assets Second National Bank First National Bank +$100 Checkable deposits +$100 Cash items in process of collection Liabilities Assets First National Bank
  • 5. Basic Banking—Making a Profit
    • Asset transformation-selling liabilities with one set of characteristics and using the proceeds to buy assets with a different set of characteristics
    • The bank borrows short and lends long
    +$90 Loans +$90 Excess reserves +$100 Checkable deposits +$100 Required reserves +$100 Checkable deposits +$100 Required reserves Liabilities Assets Liabilities Assets Second National Bank First National Bank
  • 6. Bank Management
    • Liquidity Management
    • Asset Management
      • Credit Risk
    • Liability Management
    • Capital Adequacy Management
    • Interest-rate Risk
  • 7. Liquidity Management: Ample Excess Reserves, rrr=10%
    • Enough reserves and liquid assets to meet reserve requirements and net deposit outflows
      • If a bank has ample excess reserves, a deposit outflow does not necessitate changes in other parts of its balance sheet
    $90M $10M $100M $20M Liabilities Liabilities $10M Securities $10M Securities $10M Bank Capital $80M Loans $10M Bank Capital $80M Loans Deposits Reserves Deposits Reserves Assets Assets
  • 8. Liquidity Management: Shortfall in Reserves
    • Reserves are a legal requirement and the shortfall must be eliminated
    • Excess reserves are insurance against the costs associated with deposit outflows
    $90M $0 $100M $10M Liabilities Liabilities $10M Securities $10M Securities $10M Bank Capital $90M Loans $10M Bank Capital $90M Loans Deposits Reserves Deposits Reserves Assets Assets
  • 9. Liquidity Management: Borrowing , federal funds for example
    • Cost incurred is the interest rate paid on the borrowed funds
    Liabilities Assets $90M Deposits $9M Reserves $10M Bank Capital $10M Securities $9M Borrowing $90M Loans
  • 10. Liquidity Management: Securities Sale
    • The cost of selling securities is the brokerage and other transaction costs
    Liabilities Assets $90M Deposits $9M Reserves $1M Securities $10M Bank Capital $90M Loans
  • 11. Liquidity Management: Federal Reserve , discount window
    • Borrowing from the Fed also incurs interest payments based on the discount rate
    Liabilities Assets $90M Deposits $9M Reserves $10M Bank Capital $10M Securities $9M Borrow from Fed $90M Loans
  • 12. Asset Management: Three Goals
    • Seek the highest possible returns on loans and securities
    • Reduce risk
    • Have adequate liquidity
  • 13. Asset Management: Four Tools
    • Find borrowers who will pay high interest rates and have low possibility of defaulting
    • Purchase securities with high returns and low risk
    • Lower risk by diversifying
    • Balance need for liquidity against increased returns from less liquid assets
  • 14. Liability Management
    • Recent phenomenon due to rise of money center banks
    • Expansion of overnight loan markets and new financial instruments (such as negotiable CDs)
    • Checkable deposits have decreased in importance as source of bank funds
  • 15. Capital Adequacy Management
    • Bank capital helps prevent bank failure
    • The amount of capital affects return for the owners (equity holders) of the bank
    • Regulatory requirement
  • 16. Capital Adequacy Management: Preventing Bank Failure When Assets Decline >calculate the change in net worth for the 2 banks Low Bank Capital High Bank Capital Liabilities Assets Liabilities Assets Decrease in Loans outstandin $96M Deposits $10M Reserves $90M Deposits $10M Reserves -$1M Bank Capital $85M Loans $5M Bank Capital $85M Loans $96M Deposits $10M Reserves $90M Deposits $10M Reserves $4M Bank Capital $90M Loans $10M Bank Capital $90M Loans Liabilities Assets Liabilities Assets Low Bank Capital High Bank Capital
  • 17. Capital Adequacy Management: Returns to Equity Holders >measure the EM for the 2 different banks before the decline in assets
  • 18. Capital Adequacy Management: Safety
    • Benefits the owners of a bank by making their investment safe
    • Costly to owners of a bank because the higher the bank capital, the lower the return on equity
    • Choice depends on the state of the economy and levels of confidence
  • 19. Credit Risk : Overcoming Adverse Selection and Moral Hazard
    • Screening and information collection
    • Specialization in lending
    • Monitoring and enforcement of restrictive covenants
    • Long-term customer relationships
    • Loan commitments
    • Collateral and compensating balances
    • Credit rationing
  • 20. Interest-Rate Risk
    • If a bank has more rate-sensitive liabilities than assets, a rise in interest rates will reduce bank profits and a decline in interest rates will raise bank profits
    First National Bank
      • Checkable deposits
      • Reserves
      • Savings deposits
      • Long-term loans
    $50M Fixed-rate liabilities $80M Fixed-rate assets
      • Long-term CDs
      • Long-term securities
      • Equity capital
      • Variable-rate CDs
      • Variable-rate and short-term loans
      • Money market deposit accounts
      • Short-term securities
    $50M Rate-sensitive liabilities $20M Rate-sensitive assets Liabilities Assets
  • 21. Interest Rate Risk: Gap Analysis > If interest sensitive liabilities are 30million more than interest sensitive assets, calculate the change in profits resulting from a 2% change in interest rates
  • 22. Interest Rate Risk: Duration Analysis > If a bank has $100million in assets with an average 3 year duration and 96million in liabilities with an average 2 year duration, calculate the change in net worth resulting from a 2% change in interest rates
  • 23. Chapter 10&11
    • Understanding the regulation of banking in the US
      • Banks motivations
      • Regulators role
    • Asymmetric information
      • Changes in laws
      • Bank responses
  • 24.  
  • 25. Evolution of the Banking Industry
    • Financial innovation is driven by the desire to earn profits
    • A change in the financial environment will stimulate a search by financial institutions for innovations that are likely to be profitable
      • Responses to change in demand conditions
      • Responses to changes in supply conditions
      • Avoidance of regulations