Today’s goals Understand the fundamental principles of financial intermediation Explain...
33
Overview of financial intermediation and the global financial system
Today’s goals Understand the fundamental principles of financial intermediation Explain “financial claims” and distinguish between marketable and non-marketable
Todays goals Understand the fundamental principles of financial
intermediation Explain financial claims and distinguish between
marketable and non-marketable financial claims Identify various
financial markets, and banking and non- banking financial
intermediaries Distinguish between deposit-taking and non-deposit-
taking financial intermediaries Understand banking versus shadow
banking markets Explain the functions and characteristics of money
and monetary bases Explain the importance of market liquidity to
the operation of the global economy 2
Slide 3
Financial Assets An asset is any property of value held or
owned by an individual or company A Financial Asset can be thought
of as financial property eg: Cash (money) in your wallet Deposit
with a bank Corporate bond Common share of a company 3 Casu,
Girardone & Molyneux: Chapter 1.2
Slide 4
Financial System The typical components of any financial
system: 1. Financial Assets 2. Borrowers and Savers of financial
assets 3. Financial Intermediaries 4. Central Bank regulators (set
and manage the rules of the financial system) Financial systems
exist within individual countries which have their own currency
Currency blocks (eg Euro) can have common components (eg European
Central Bank) 4
Slide 5
Financial Intermediation Two fundamental parties to any
financial system: 1. Borrowers (deficit units) 2. Savers (surplus
units) Financial Intermediation is conducted by third parties who
take deposits from Savers and make loans with those deposits to
Borrowers Financial intermediation increases economic efficiency by
offering valuable transformative services to both Borrowers and
Savers 5 Casu, Girardone & Molyneux: Chapter 1.2
Slide 6
Intermediation Savers Financial Intermediaries Borrowers Savers
Financial (Capital) Markets Borrowers versus Direct Finance 6 Casu,
Girardone & Molyneux: Chapter 1.2
Slide 7
Financial Claims Financial Claims are contractual obligations
created when a Borrower accepts money from a Saver (or Lender)
Obligation to pay that money back at some time in the future
Obligation to pay interest or a return on that money Can be Secured
or Unsecured by other assets Holder of financial claim has a
Financial Asset Grantor of financial claim has a Financial
Liability 7 Casu, Girardone & Molyneux: Chapter 1.2
Slide 8
Marketability Financial Claims are said to be marketable if a
holder can efficiently sell (transfer) the claim to a third party
eg: Commercial Paper (CP) Bonds Shares Asset Backed Securities
(ABS) Financial Claims are said to be non-marketable if a holder
can not efficiently sell (transfer) the claim to a third party eg:
Structured Project Finance Loan Insurance Policy Bank deposit
8
Slide 9
Major world financial systems CountryCurrencyCentral BankMajor
Banks (sample) ChinaRMBPBOCBOC, ABC, ICBC, CCB USAUSDFederal
ReserveCiti, JP Morgan, BAML EUEURECBDeutsche, SG, BNP
UKGBPBOEBarclays, RBS, Lloyds AustraliaAUDRBAANZ, CBA, Westpac, NAB
CanadaCADBOCRBC, CIBC, TD, BNS, BMO Hong KongHKDHKMAHSBC, Stan
Chart 9
Slide 10
Types of financial intermediaries Intermediaries are either:
Regulated licensed banks or building societies etc Non bank
financial institutions (NBFIs) Regulated banks are typically:
Retail Commercial Banks Wholesale Commercial Banks Universal Banks
Deposit-Taking Institutions eg banks Non-Deposit-Taking
Institutions eg insurance companies 10 Casu, Girardone &
Molyneux: Chapters 2.3, 3.2, 3.3,3.5
Slide 11
Types of financial intermediaries Non Bank Financial
Institutions are typically: Investment Banks Insurance Companies
Pension / Mutual Funds Private Equity Funds Hedge Funds Venture
Capital Funds Securitised Lenders 11 Casu, Girardone &
Molyneux: Chapters 2.4, 3.6
Slide 12
Building Societies Member based mutual (cooperative)
organisations Operate at retail level Mortgage and savings product
focused Mostly unlisted Smaller balance sheets, regional Nationwide
Building Society (UK) Yorkshire Building Society (UK) IMB
(Australia) 12 Casu, Girardone & Molyneux: Chapter 3.3
Slide 13
Retail Banks Limited liability corporate organisations Primary
focus at retail level Mortgage and savings products Mostly listed
Medium sized balance sheets Large number of smaller customers 13
Casu, Girardone & Molyneux: Chapter 3.3
Slide 14
Wholesale Commercial Banks Limited liability corporate
organisations Primary focus at wholesale or corporate level
Corporate loans All listed Large sized balance sheets Smaller
number of larger customers 14 Casu, Girardone & Molyneux:
Chapter 3.3
Slide 15
Universal Banks Limited liability corporate organisations Focus
at retail and wholesale / corporate level Retail banking, corporate
and Capital Markets products All listed Large sized balance sheets
Large number of large and small customers 15 Casu, Girardone &
Molyneux: Chapter 3.2
Slide 16
Investment Banks Partnerships or limited liability corporate
organisations Focus at wholesale / corporate level Capital Markets
products Listed and unlisted Volatile balance sheets Smaller number
of large customers 16 Casu, Girardone & Molyneux: Chapter
3.6
Slide 17
Insurance Companies Mutuals or limited liability corporate
organisations Focus at retail and wholesale / corporate level
Premium based risk management products Listed typically Large
off-balance sheet exposures 17 Casu, Girardone & Molyneux:
Chapter 2.4
Slide 18
Pension / Mutual Funds Trust based corporate organisations
Focus at retail and wholesale / corporate level Investment
management products Listed and unlisted Limited to no leverage 18
Casu, Girardone & Molyneux: Chapter 2.4
Slide 19
Hedge / Private Equity Funds Trust based corporate
organisations Focus at wholesale / corporate level Investment
management products Target absolute returns High potential leverage
19
Slide 20
Venture Capital Funds Trust based corporate organisations Focus
at wholesale / corporate level Investing in startup or early stage
companies Target absolute returns Zero leverage 20 Casu, Girardone
& Molyneux: Chapter 3.5
Slide 21
Securitised Lenders Trust based corporate organisations Focus
at retail and wholesale / corporate level Originating and funding
portfolios of financial assets Highly structured Special Purpose
Companies High leverage 21
Slide 22
Shadow banking The term Shadow Banking has been used in the
past 5- 10 years to describe a banking-like system of financial
intermediation conducted by NBFIs As a result it is largely
unregulated and is considered to have contributed significantly to
the 2007-9 GFC Post 2007-9 GFC shadow banking closed down but in
recent years it is re-emerging in the form of P2P lending,
crowdfunding and private equity 22
Slide 23
Financial markets Places or platforms where financial assets
are bought and sold Electronic or over-the-counter (OTC) Open
outcry exchanges are almost things of the past (eg futures pits)
Most significant financial markets conduct trade in: Securities
(shares and bonds eg NYSE, Nasdaq) Futures and derivatives (eg
Chicago Mercantile Exchange / Chicago Board of Trade) Foreign
exchange (largest cash market of them all) Commodities (much of the
physical trade is OTC) 23
Slide 24
Financial market regulation Everywhere there is a financial
market there is usually a regulator establishing and monitoring the
rules governing that market China CSRC oversees securities markets
US SEC oversees US security markets UK FSA Australia ASIC
Regulators aim to ensure markets are fair and orderly 24 Casu,
Girardone & Molyneux: Chapter 7
Slide 25
Information Asymmetry Financial market participants often have
varying levels of information > Information Asymmetry 1. Some
players have differing information 2. Some players have Inside
Information 3. All players have imperfect information Inside
Information is usually gained from private sources and is usually
illegal to trade from (insider trading) A key regulatory task is to
prevent insider trading 25 Casu, Girardone & Molyneux: Chapter
1.4
Slide 26
Global financial markets In 2015 most financial markets attract
participants from all over the world ie they are global in nature
eg: Gold derivatives traded in USD by most global players AUD
corporate bonds can be held by most global investors but more
interest generally shown by Australian investors Shares traded on
NYSE by investors on all continents Some markets have restrictions
such that many global players can not access them -> localised
pricing and trading Many markets are highly correlated with each
other 26
Slide 27
Financial market liquidity Market liquidity impacts a
participants ability to: 1. Transact in a market at their time of
choosing 2. Transact volume of choosing 3. Minimise transaction
costs Increasing market liquidity grows volumes while lowering per
unit transactions costs => Increased economic efficiency 27
Slide 28
The history of money Before money, market participants used the
Barter System: Participants exchange goods and services directly
for other goods and services Very inefficient because of high
transactions costs, lack of price transparency, minimal
standardisation and costly/difficult to store wealth Commodity
Money, a fixed weight of grain, was used by the Mesopotamians some
3,000 BC Commodity money was replaced by gold and silver, and
eventually by banknotes (first used in China during the Song
Dynasty circa 1,000 AD) Today we may be standing at the dawn of
Cryptocurrency 28 Casu, Girardone & Molyneux: Chapter 5.3
Slide 29
The uses of money Medium of exchange widely accepted as payment
for goods and services Medium of valuation widely accepted as
method of relative valuation of goods and services Store of value
confidence that participants can hold money into the future to pay
for goods and services in a predictable way Standard of Deferred
Payment - goods and services consumed now can be paid for in the
future with money 29 Casu, Girardone & Molyneux: Chapter
5.3
Slide 30
The properties of money To be a viable medium of exchange a
monetary asset needs various qualities: 1. Acceptable to
participants 2. Standardized quality 3. Durable 4. Valuable
relative to its weight ie efficient to use 5. Divisible to
accommodate various prices of goods and services 30 Casu, Girardone
& Molyneux: Chapter 5.3
Slide 31
Money of today Governments around the globe today issue
banknotes and coins which derive value by government order or Fiat
Governments decree by law that all public and private financial
liabilities can be repaid by this Fiat money designating it as
legal tender The right to issue (or print) money comes with
responsibility. Printing excessive banknotes or expanding the Money
Supply can cause inflation and lead to collapse in trust in that
money 31 Casu, Girardone & Molyneux: Chapter 5.3
Slide 32
Yes, Zimbabwe? Zimbabwean dollar was the official currency from
1980 to 2009, when it was abandoned Following a period of
hyperinflation the currency was redenominated on three occasions
from 2006 When abandoned the $Z had been redenominated by 10^25!
32
Slide 33
Money Supply Monetary aggregates are measures of the quantity
of money in circulation typically broader than simply banknotes and
coins: M1 is defined as banknotes, coins and on-call deposits M2 is
defined as M1 + most term deposits M1 and M2 is carefully watched
by many markets to monitor government trustworthiness! 33 Casu,
Girardone & Molyneux: Chapter 5.3