Financial Institutions and Markets Dr. Andrew L. H. Parkes Day 5 “How do financial markets work?” 卜安吉

Dec. 14, 2010Financial Institutions & Markets, Ch. 92 Chapter 9: Money Markets Money Market  Short-term  Low risk  Very Liquid Therefore, they are SAFE and LIQUID – or CLOSE to being MONEY. Therefore, they are SAFE and LIQUID – or CLOSE to being MONEY. ALMOST – Money

Dec. 14, 2010Financial Institutions & Markets, Ch. 93 Chapter 9: Money Markets Money Market  Sold in Large Amounts  Low DEFAULT risk  Less than 1 year to maturity Most less than 120 days – so CLOSE to being MONEY. Most less than 120 days – so CLOSE to being MONEY. 6 month U.S. Treasury Bill rate As of Dec. 12, 2008

Dec. 14, 2010Financial Institutions & Markets, Ch. 94 Chapter 9: Money Markets Money Market  Prime Rate is top flat line Federal Funds is the bottom flat line (notice the rate is almost zero) Federal Funds is the bottom flat line (notice the rate is almost zero) These are really considered as MONEY. These are really considered as MONEY. Rate comparisons - NYT

Dec. 14, 2010Financial Institutions & Markets, Ch. 95 Chapter 9: Money Markets Money Market  Prime Rate is top flat line Bottom (faint) line is Fed Funds – what are they again? Bottom (faint) line is Fed Funds – what are they again? These are really considered as MONEY. These are really considered as MONEY. Rate comparisons - NYT

Dec. 14, 2010Financial Institutions & Markets, Ch. 96 CONSUMER MONEY RATES Tuesday, December 09, 2008 YIELD/RATE (%)52-WEEK CHANGE IN PCT. PTS Interest RateLastWk AgoHighLow52-Wk3-Yr Federal-funds rate target Prime rate* Libor, 3-month Money market, annual yield Five-year CD, annual yield year mortgage, fixed year mortgage, fixed Jumbo mortgages, $417,000-plus Five-year adj mortage (ARM) New-car loan, 48-month Home-equity loan, $30, * Base rate posted by 75% of the nation's largest banks. Source: Thomson Reuters, WSJ Market Data Group, Bankrate.com

Dec. 14, 2010Financial Institutions & Markets, Ch. 97 U.S. Treasury (Bills) 1 Month - As of 4:05 pm 12/13/2010 ET

Dec. 14, 2010Financial Institutions & Markets, Ch. 98 Why are Money Markets needed? Banks have the information advantage – they can mediate asymmetric information between savers and borrowers Banks have the information advantage – they can mediate asymmetric information between savers and borrowers BUT MONEY MARKETS Have: BUT MONEY MARKETS Have: Less Regulation, and a Less Regulation, and a Cost Advantage Cost Advantage So banks only operate where the info advantage > reg costs So banks only operate where the info advantage > reg costs Top is Dec the bottom is Dec. 2010!!! Why different?!

Dec. 14, 2010Financial Institutions & Markets, Ch. 99 Commercial Paper Rates 2007 Data as of December 13, 2007 Commercial Paper Rates and Outstanding Derived from data supplied by The Depository Trust & Clearing Corporation Posted December 14, 2007 Discount rates Term AA nonfinancial A2/P2 nonfinancial AA financial AA asset-backed 1-day day day day day day

Dec. 14, 2010Financial Institutions & Markets, Ch. 910 Commercial Paper Rates, 2008 Data as of December 11, 2008 Commercial Paper Rates and Outstanding Derived from data supplied by The Depository Trust & Clearing Corporation Posted December 12, 2008 Discount rates Term AA nonfinancial A2/P2 nonfinancial AA financial AA asset-backed 1-day day day day dayn.a.5.28n.a dayn.a Trade data insufficient to support calculation of the 60-day AA nonfinancial, 90-day AA nonfinancial, 90-day A2/P2 nonfinancial, 60-day AA financial, and 90-day AA financial rates for December 11, 2008.

Dec. 14, 2010Financial Institutions & Markets, Ch. 911 Commercial Paper Rates, Data as of September 22, 2009 Commercial Paper Rates and Outstanding Derived from data supplied by The Depository Trust & Clearing Corporation Posted September 23, 2009 Discount rates Term AA nonfinancial A2/P2 nonfinancial AA financial AA asset-backed 1-day day day day day day0.21n.a Trade data insufficient to support calculation of the 90-day A2/P2 nonfinancial rate for September 22, Back to “Normal” - almost

Dec. 14, 2010Financial Institutions & Markets, Ch. 912 Commercial Paper Rates, Data as of December 10, 2010 Commercial Paper Rates and Outstanding Derived from data supplied by The Depository Trust & Clearing Corporation Posted December 13, 2010 Back to “Normal” - almost Discount rates Term AA nonfinancial A2/P2 nonfinancial AA financial AA asset-backed 1-day day day day day day0.21n.a Trade data insufficient to support calculation of the 90-day A2/P2 nonfinancial rate for December 10, 2010.

Dec. 14, 2010Financial Institutions & Markets, Ch. 913 The Purpose of Money Markets Place to Keep Cash (Funds) for a short time Place to Keep Cash (Funds) for a short time Source for borrowers that just need funds for a short time period. Source for borrowers that just need funds for a short time period. Place to earn a little on funds (cash) not in use (earning income) for a firm. Place to earn a little on funds (cash) not in use (earning income) for a firm. Quickly able to access these funds! Quickly able to access these funds! Graph source: WSJ

Dec. 14, 2010Financial Institutions & Markets, Ch. 914 Fed Lost Control of Fed Funds Rate? Take a look at the last few months and notice the “Target” rate – the rate the FOMC sets Take a look at the last few months and notice the “Target” rate – the rate the FOMC sets NOW look at the “Daily” rate – the rate that Banks loan “Fed Funds” on the market NOW look at the “Daily” rate – the rate that Banks loan “Fed Funds” on the market There is a VAST difference lately – not before!!! Most “Fed Watchers” worry about this – that the Fed has no control! There is a VAST difference lately – not before!!! Most “Fed Watchers” worry about this – that the Fed has no control!

Dec. 14, 2010Financial Institutions & Markets, Ch

Dec. 14, 2010Financial Institutions & Markets, Ch. 916 Participants and Instruments Are detailed very well in Mishkin’s Chapter 9 PowerPoint Slides. Are detailed very well in Mishkin’s Chapter 9 PowerPoint Slides. See the PPT … See the PPT … Commercial Paper