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BUFN 722 ch-01 Introduction
BUFN 722 introduction <ul><li>Elinda Fishman Kiss,  Ph.D. </li></ul><ul><li>Professor - Rutgers, Temple, Wharton, Wellesle...
on index cards <ul><li>Course and section number (e.g., BUFN722, DC01) </li></ul><ul><li>name </li></ul><ul><li>phone numb...
Financial Web pages <ul><li>Bloomberg  http://www.bloomberg.com/welcome.html   </li></ul><ul><li>CNN  Financial News  http...
Wall Street Journal Interactive <ul><li>Find your 12 digit account number on the address label. You need this number to re...
for you to get my class notes <ul><li>send me your e-mail address to:  [email_address]   </li></ul><ul><li>use an e-mail a...
Power Point Viewer <ul><li>http://www.microsoft.com </li></ul><ul><li>Web Browsers & Viewers </li></ul><ul><li>Power Point...
Why Are Financial  Intermediaries Special? <ul><li>Objectives: </li></ul><ul><ul><li>Explain the special role of FIs in th...
Overview of Financial Institutions <ul><li>FI are Institutions that perform the essential function of channeling funds fro...
Flow of Funds in a World without FIs: Direct Transfer Users of Funds (Corporations) Suppliers of Funds (Households) Financ...
FIs’ Specialness <ul><li>Without FIs: Low level of fund flows. </li></ul><ul><ul><li>Costly for individuals to monitor bor...
Flow of Funds in a world with FIs: Indirect transfer Users of Funds FI (Brokers) FI (Asset transformers) Suppliers of Fund...
Types of FIs <ul><li>Commercial banks </li></ul><ul><ul><li>depository institutions whose major assets are loans and major...
<ul><li>Securities firms and investment banks </li></ul><ul><ul><li>financial institutions that underwrite securities and ...
Functions of FIs <ul><li>Brokerage function </li></ul><ul><ul><li>Acting as an  agent  for investors: </li></ul></ul><ul><...
Role of FIs in Cost Reduction <ul><li>Information costs: </li></ul><ul><ul><li>Investors exposed to Agency Costs </li></ul...
Services Performed by Financial Intermediaries <ul><li>Monitoring Costs </li></ul><ul><ul><li>aggregation of funds provide...
Other Special Services <ul><ul><li>Reduced transaction costs </li></ul></ul><ul><ul><li>Maturity intermediation </li></ul>...
<ul><li>Transaction Cost Services </li></ul><ul><ul><li>transaction costs are reduced through economies of scale </li></ul...
Services Provided by FIs Benefiting the Overall Economy <ul><li>Money Supply Transmission </li></ul><ul><ul><li>Depository...
<ul><li>Intergenerational Wealth Transfers </li></ul><ul><ul><li>life insurance companies and pension funds provide savers...
Risks Faced by Financial Institutions <ul><li>Interest Rate Risk </li></ul><ul><li>Market Risk </li></ul><ul><li>Credit Ri...
Specialness and Regulation <ul><li>FIs receive special regulatory attention. </li></ul><ul><ul><li>Reasons:  </li></ul></u...
Regulation of FIs <ul><li>Important features of regulatory policy: </li></ul><ul><ul><li>Protect ultimate sources and user...
Regulation <ul><li>Safety and soundness regulation: </li></ul><ul><ul><li>Regulations to increase diversification </li></u...
Regulation <ul><li>Monetary policy regulation </li></ul><ul><ul><li>Federal Reserve directly controls  outside money . </l...
Regulation <ul><li>Credit allocation regulation </li></ul><ul><ul><li>Supports socially important sectors such as housing ...
Regulation <ul><li>Consumer protection regulation </li></ul><ul><ul><li>Community Reinvestment Act (CRA). </li></ul></ul><...
Regulation <ul><li>Investor protection regulation </li></ul><ul><ul><li>Protections against abuses such as insider trading...
Regulation <ul><li>Entry regulation </li></ul><ul><ul><li>Level of entry impediments affects profitability and value of ch...
Web Resources <ul><li>For more information on regulation of depository institutions visit: </li></ul><ul><li>www.ffiec.gov...
Changing Dynamics  of Specialness <ul><li>Trends in the United States </li></ul><ul><ul><li>Decline in share of depository...
Globalization of Financial Markets and Institutions <ul><li>Increased competition from foreign FIs at home and abroad </li...
Factors Leading to Significant Growth in Foreign Markets <ul><li>The pool of savings from foreign investors has increased ...
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  • 2 FIN 103 - Chapter 1 2 2
  • 3 FIN 103 - Chapter 1 3 3
  • 6 FIN 103 - Chapter 1 6
  • 7 FIN 103 - Chapter 1 7 3 6 6
  • 8 FIN 103 - Chapter 1 8 2
  • 9 FIN 103 - Chapter 1 9
  • Transcript of "BUFN722-ch01.ppt"

    1. 1. BUFN 722 ch-01 Introduction
    2. 2. BUFN 722 introduction <ul><li>Elinda Fishman Kiss, Ph.D. </li></ul><ul><li>Professor - Rutgers, Temple, Wharton, Wellesley, PSU, TCNJ, Drexel </li></ul><ul><li>Treasurer - Custom Equipment Mfg., Inc. </li></ul><ul><li>RTC (Resolution Trust Corp.) </li></ul><ul><li>PSFS (Philadelphia Savings Fund Soc.) </li></ul><ul><li>Citicorp Investment Bank </li></ul><ul><li>First Pennsylvania Bank (now Wachovia) </li></ul><ul><li>Federal Reserve - Board of Governors; US Treasury </li></ul><ul><li>e-mail [email_address] [email_address] </li></ul><ul><li>web page http://www. rhsmith . umd . edu /finance/ elinda -kiss http://bb. rhsmith . umd . edu </li></ul><ul><li>Rutgers web page http://www. elinda -kiss. rutgers . edu / </li></ul><ul><li>Office – 301-405-7538; (cell) 215-962-9071 </li></ul><ul><li>Fax 301-405-0359 </li></ul>
    3. 3. on index cards <ul><li>Course and section number (e.g., BUFN722, DC01) </li></ul><ul><li>name </li></ul><ul><li>phone number (Home) (Office) (cell) </li></ul><ul><li>e-mail address - very important - will send you class announcements in email </li></ul><ul><ul><li>Include as many emails as you wish – home, office, university, etc. – PLEASE PRINT YOUR EMAIL ADDRESS IN CAPS </li></ul></ul><ul><li>past Finance courses </li></ul><ul><li>employment - what do? where? </li></ul><ul><li>social security number or student ID </li></ul><ul><li>Are you registered? yes/no </li></ul><ul><li>Are you completing incomplete? yes/no </li></ul><ul><li>Sign the card on the back of the card </li></ul>
    4. 4. Financial Web pages <ul><li>Bloomberg http://www.bloomberg.com/welcome.html </li></ul><ul><li>CNN Financial News http://www.cnnfn.com/ </li></ul><ul><li>New York stock exchange http://www.nyse.com/ </li></ul><ul><li>Chicago Board of Trade http://www.cbot.com/ </li></ul><ul><li>NASDAQ & AMEX http://nasdaq.com </li></ul><ul><li>Wachovia bank http://www.wachovia.com </li></ul><ul><li>Vanguard- mutual funds http://www.vanguard.com/ </li></ul><ul><li>Fed Reserve Econ Data http://stls.frb.org/fred/ </li></ul><ul><li>Bureau of Labor Statistics http://www.bls.gov/blshome.html </li></ul><ul><li>Bureau of Census http://www.census.gov/ </li></ul><ul><li>International Monetary Fund http://www.imf.org/ </li></ul><ul><li>Economic Calendar http://biz.yahoo.com/calendar </li></ul><ul><li>NABE http://www.nabe.com/ </li></ul><ul><li>Dr. Kiss http://www.elinda-kiss.rutgers.edu/ </li></ul><ul><li>Data http://www.cob.ohio-state.edu/fin/osudata.htm </li></ul><ul><li>Fed Res - Bd of Gov - http://www.bog.frb.fed.us/FOMC/ </li></ul>
    5. 5. Wall Street Journal Interactive <ul><li>Find your 12 digit account number on the address label. You need this number to register for the WSJ Interactive edition </li></ul><ul><li>be sure your web browser is operational. </li></ul><ul><li>point your browser to: http://info.wsj.com/student </li></ul><ul><li>at the User Name prompt, enter your 12-digit account number without any spaces (e.g., 010296201704) </li></ul><ul><li>answer the questions on the short survey. </li></ul><ul><li>use name exactly as it appears on address label. </li></ul><ul><li>click “Submit” </li></ul><ul><li>select a unique password. (remember it) (write down in secure location) </li></ul><ul><li>from now on, go to http://wsj.com to access the Interactive Journal front page or http://wsj.com/pages/money.htm </li></ul><ul><li>1-800-975-8602 for question on print subscription & 1-800-369-2834 for questions on Interactive journal. 1-800-975-8602 for questions on Journal in Education program. </li></ul>
    6. 6. for you to get my class notes <ul><li>send me your e-mail address to: [email_address] </li></ul><ul><li>use an e-mail address that allows attachments - you can get a free e-mail account from University computer center (I may send you notes as e-mail attachment, which you can download) </li></ul><ul><li>The notes are in Powerpoint presentation format. You can print the slides (in black & white) 6 (or 3 or 4) to a page or in outline form - Select this option by clicking on F ile P rint Print W hat [& arrow down to: Outline View or 6 (or 3 or 4)slides per page] </li></ul><ul><li>then you can make notes beside each one. </li></ul><ul><li>I will try to have the slides available one day before each class; there is no guarantee that I will cover all the material in each set of class notes - or that I will add new material in class </li></ul><ul><li>If you do not have PowerPoint, you can download PowerPoint viewer (a free download) at http://www.microsoft.com </li></ul><ul><li>Web Browsers & Viewers Power Point Viewers Microsoft Power Point Viewers – you can read the slides but can print only one per page </li></ul>
    7. 7. Power Point Viewer <ul><li>http://www.microsoft.com </li></ul><ul><li>Web Browsers & Viewers </li></ul><ul><li>Power Point Viewers </li></ul><ul><li>Microsoft Power Point Viewers </li></ul><ul><li>click on appropriate viewer for your operating system (win 95, win 3.1, Mac) </li></ul><ul><li>download Power Point Viewers </li></ul><ul><li>this is a free download </li></ul><ul><li>can read & view slides </li></ul><ul><li>can print - one slide per page </li></ul><ul><li>follow instructions </li></ul><ul><li>download power point viewer if do NOT have power point on your computer </li></ul>
    8. 8. Why Are Financial Intermediaries Special? <ul><li>Objectives: </li></ul><ul><ul><li>Explain the special role of FIs in the financial system and the functions they provide. </li></ul></ul><ul><ul><li>Explain why the various FIs receive special regulatory attention. </li></ul></ul><ul><ul><li>Discuss what makes some FIs more special than others. </li></ul></ul>
    9. 9. Overview of Financial Institutions <ul><li>FI are Institutions that perform the essential function of channeling funds from those with surplus funds to those with shortages of funds (e.g. banks, thrifts, insurance companies, securities firms and investment banks, finance companies, mutual funds, pension funds) </li></ul>
    10. 10. Flow of Funds in a World without FIs: Direct Transfer Users of Funds (Corporations) Suppliers of Funds (Households) Financial Claims (Equity and debt instruments) Cash Example: A firm sells shares directly to investors without going through a financial institution
    11. 11. FIs’ Specialness <ul><li>Without FIs: Low level of fund flows. </li></ul><ul><ul><li>Costly for individuals to monitor borrowers </li></ul></ul><ul><ul><ul><li>Role of bond covenants in partially alleviating monitoring costs </li></ul></ul></ul><ul><ul><li>Less liquidity </li></ul></ul><ul><ul><li>Substantial price risk </li></ul></ul>
    12. 12. Flow of Funds in a world with FIs: Indirect transfer Users of Funds FI (Brokers) FI (Asset transformers) Suppliers of Funds Financial Claims (Equity and debt securities) Financial Claims (Deposits and Insurance policies)
    13. 13. Types of FIs <ul><li>Commercial banks </li></ul><ul><ul><li>depository institutions whose major assets are loans and major liabilities are deposits </li></ul></ul><ul><li>Thrifts </li></ul><ul><ul><li>depository institutions in the form of savings and loans, savings banks, credit unions </li></ul></ul><ul><li>Insurance companies </li></ul><ul><ul><li>financial institutions that protect individuals and corporations from adverse events </li></ul></ul>(continued)
    14. 14. <ul><li>Securities firms and investment banks </li></ul><ul><ul><li>financial institutions that underwrite securities and engage in securities brokerage and trading </li></ul></ul><ul><li>Finance companies </li></ul><ul><ul><li>financial institutions that make loans to individuals and businesses </li></ul></ul><ul><li>Mutual Funds </li></ul><ul><ul><li>financial institutions that pool financial resources and invest in diversified portfolios </li></ul></ul><ul><li>Pension Funds </li></ul><ul><ul><li>financial institutions that offer savings plans for retirement </li></ul></ul>
    15. 15. Functions of FIs <ul><li>Brokerage function </li></ul><ul><ul><li>Acting as an agent for investors: </li></ul></ul><ul><ul><ul><li>e.g. Merrill Lynch, Charles Schwab </li></ul></ul></ul><ul><ul><ul><li>Mutual Fund </li></ul></ul></ul><ul><ul><ul><li>Reduce costs through economies of scale </li></ul></ul></ul><ul><ul><ul><ul><li>Encourages higher rate of savings </li></ul></ul></ul></ul><ul><ul><li>Asset transformer : </li></ul></ul><ul><ul><ul><li>Purchase primary securities by selling financial claims to households </li></ul></ul></ul><ul><ul><ul><ul><li>These secondary securities often more marketable </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Banks, thrifts </li></ul></ul></ul></ul>
    16. 16. Role of FIs in Cost Reduction <ul><li>Information costs: </li></ul><ul><ul><li>Investors exposed to Agency Costs </li></ul></ul><ul><ul><ul><li>Role of FI as Delegated Monitor (Diamond, 1984) </li></ul></ul></ul><ul><ul><ul><ul><li>Shorter term debt contracts easier to monitor than bonds </li></ul></ul></ul></ul><ul><ul><ul><ul><li>FI likely to have informational advantage </li></ul></ul></ul></ul><ul><li>Liquidity and Price Risk </li></ul><ul><ul><li>Secondary claims issued by FIs have less price risk </li></ul></ul><ul><ul><li>FIs have advantage in diversifying risks </li></ul></ul><ul><ul><li>S&L debacle of 1980s linked to inadequate diversification of S&Ls </li></ul></ul>
    17. 17. Services Performed by Financial Intermediaries <ul><li>Monitoring Costs </li></ul><ul><ul><li>aggregation of funds provides greater incentive to collect a firm’s information and monitor actions </li></ul></ul><ul><li>Liquidity and Price Risk </li></ul><ul><ul><li>provide financial claims to savers with superior liquidity and lower price risk </li></ul></ul>(continued)
    18. 18. Other Special Services <ul><ul><li>Reduced transaction costs </li></ul></ul><ul><ul><li>Maturity intermediation </li></ul></ul><ul><ul><li>Transmission of monetary policy. </li></ul></ul><ul><ul><li>Credit allocation (Areas of special need such as home mortgages). </li></ul></ul><ul><ul><li>Intergenerational transfers or time intermediation. </li></ul></ul><ul><ul><li>Payment services (FedWire and CHIPS). </li></ul></ul><ul><ul><li>Denomination intermediation. </li></ul></ul>
    19. 19. <ul><li>Transaction Cost Services </li></ul><ul><ul><li>transaction costs are reduced through economies of scale </li></ul></ul><ul><li>Maturity Intermediation </li></ul><ul><ul><li>greater ability to bear risk of mismatching maturities of assets and liabilities </li></ul></ul><ul><li>Denomination Intermediation </li></ul><ul><ul><li>allow small investors to overcome constraints imposed to buying assets imposed by large minimum denomination size </li></ul></ul>
    20. 20. Services Provided by FIs Benefiting the Overall Economy <ul><li>Money Supply Transmission </li></ul><ul><ul><li>Depository institutions are the conduit through which monetary policy actions impact the economy in general </li></ul></ul><ul><li>Credit Allocation </li></ul><ul><ul><li>often viewed as the major source of financing for a particular sector of the economy (e.g. farming and real estate) </li></ul></ul>(continued)
    21. 21. <ul><li>Intergenerational Wealth Transfers </li></ul><ul><ul><li>life insurance companies and pension funds provide savers with the ability to transfer wealth from one generation to the next </li></ul></ul><ul><li>Payment Services </li></ul><ul><ul><li>efficiency with which depository institutions provide payment services directly benefits the economy </li></ul></ul>Services Provided by FIs Benefiting the Overall Economy
    22. 22. Risks Faced by Financial Institutions <ul><li>Interest Rate Risk </li></ul><ul><li>Market Risk </li></ul><ul><li>Credit Risk </li></ul><ul><ul><li>Individual loan risk </li></ul></ul><ul><ul><li>Loan portfolio & concentration risk </li></ul></ul><ul><li>Off-Balance-Sheet Risk </li></ul><ul><li>Technology Risk </li></ul><ul><li>Operational Risk </li></ul><ul><li>Foreign Exchange Risk </li></ul><ul><li>Country or Sovereign Risk </li></ul><ul><li>Insolvency Risk </li></ul><ul><li>Liquidity Risk </li></ul>
    23. 23. Specialness and Regulation <ul><li>FIs receive special regulatory attention. </li></ul><ul><ul><li>Reasons: </li></ul></ul><ul><ul><ul><li>Special services provided by FIs in general.-- FIs provide vital financial services to all sectors of the economy; therefore, their regulation is in the public interest </li></ul></ul></ul><ul><ul><ul><li>Institution-specific functions such as money supply transmission (banks), credit allocation (thrifts, farm banks), payment services (banks,thrifts), etc. </li></ul></ul></ul><ul><ul><li>Negative externalities arise if these services are not provided. </li></ul></ul><ul><li>Regulation is an attempt to prevent FI failure and the failure of financial markets overall </li></ul>
    24. 24. Regulation of FIs <ul><li>Important features of regulatory policy: </li></ul><ul><ul><li>Protect ultimate sources and users of savings. </li></ul></ul><ul><ul><ul><li>Including prevention of unfair practices such as redlining and other discriminatory actions. </li></ul></ul></ul><ul><ul><li>Ensure soundness of the system as a whole. </li></ul></ul><ul><li>Regulation is not costless </li></ul><ul><ul><li>Net regulatory burden. </li></ul></ul>
    25. 25. Regulation <ul><li>Safety and soundness regulation: </li></ul><ul><ul><li>Regulations to increase diversification </li></ul></ul><ul><ul><li>Minimum capital requirements </li></ul></ul><ul><ul><li>Guaranty funds: </li></ul></ul><ul><ul><ul><li>FDIC: Bank Insurance Fund (BIF), Savings Association Insurance Fund (SAIF) </li></ul></ul></ul><ul><ul><ul><li>Securities Investors Protection Fund (SIPC) </li></ul></ul></ul><ul><ul><li>Monitoring and surveillance. </li></ul></ul>
    26. 26. Regulation <ul><li>Monetary policy regulation </li></ul><ul><ul><li>Federal Reserve directly controls outside money . </li></ul></ul><ul><ul><li>Bulk of money supply is inside money (deposits). </li></ul></ul><ul><ul><li>Reserve requirements facilitate transmission of monetary policy. </li></ul></ul>
    27. 27. Regulation <ul><li>Credit allocation regulation </li></ul><ul><ul><li>Supports socially important sectors such as housing and farming. </li></ul></ul><ul><ul><ul><li>Requirements for minimum amounts of assets in a particular sector or maximum interest rates or fees. </li></ul></ul></ul><ul><ul><ul><li>Qualified Thrift Lender Test (QTL). </li></ul></ul></ul><ul><ul><ul><li>Regulation Q. </li></ul></ul></ul>
    28. 28. Regulation <ul><li>Consumer protection regulation </li></ul><ul><ul><li>Community Reinvestment Act (CRA). </li></ul></ul><ul><ul><li>Home Mortgage Disclosure Act (HMDA). </li></ul></ul><ul><li>Effect on net regulatory burden. </li></ul><ul><li>Potential extensions to other FIs such as insurance companies. </li></ul>
    29. 29. Regulation <ul><li>Investor protection regulation </li></ul><ul><ul><li>Protections against abuses such as insider trading, lack of disclosure, malfeasance, breach of fiduciary responsibility. </li></ul></ul><ul><li>Key legislation </li></ul><ul><ul><li>Securities Acts of 1933, 1934. </li></ul></ul><ul><ul><li>Investment Company Act of 1940. </li></ul></ul>
    30. 30. Regulation <ul><li>Entry regulation </li></ul><ul><ul><li>Level of entry impediments affects profitability and value of charter. </li></ul></ul><ul><ul><li>Regulations define scope of permitted activities. </li></ul></ul><ul><ul><li>Effects size of net regulatory burden. </li></ul></ul>
    31. 31. Web Resources <ul><li>For more information on regulation of depository institutions visit: </li></ul><ul><li>www.ffiec.gov </li></ul><ul><li>FDIC www . fdic . gov </li></ul><ul><li>SIPC www . sipc .org </li></ul><ul><li>Federal Reserve www. federalreserve . gov </li></ul><ul><li>OCC www.occ.treas.gov </li></ul>
    32. 32. Changing Dynamics of Specialness <ul><li>Trends in the United States </li></ul><ul><ul><li>Decline in share of depository institutions. </li></ul></ul><ul><ul><li>Increases in pension funds and investment companies. </li></ul></ul><ul><ul><li>May be attributable to net regulatory burden imposed on depository FIs. </li></ul></ul><ul><ul><li>Technological changes affect delivery of financial services and regulatory issues </li></ul></ul>
    33. 33. Globalization of Financial Markets and Institutions <ul><li>Increased competition from foreign FIs at home and abroad </li></ul><ul><li>Mergers involving world’s largest banks </li></ul><ul><li>Mergers blending together previously separate financial services sectors </li></ul><ul><li>Financial Markets became more global as the value of stocks traded in foreign markets soared </li></ul><ul><li>Foreign bond markets have served as a major source of international capital </li></ul><ul><li>Globalization also evident in the derivative securities market </li></ul>
    34. 34. Factors Leading to Significant Growth in Foreign Markets <ul><li>The pool of savings from foreign investors has increased </li></ul><ul><li>International investors have turned to U.S. and other markets to expand their investment opportunities </li></ul><ul><li>Information on foreign investments and markets is now more accessible (e.g. internet) </li></ul><ul><li>Some mutual funds allow ability to invest in foreign securities with low transaction costs </li></ul><ul><li>Deregulation has enhanced globalization of capital flows </li></ul>
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