Drake DRAKE UNIVERSITY Fin 129 Finance 129 Financial Institutions Management

Drake Drake University Fin 129 Syllabus Textbooks Financial Institutions Management Prerequisites Finance 101, Econ 105, Junior Standing Rules of the Game Office Hours /Contact InformationGrades WebsiteAssignments ExaminationsDisabilities Academic MisconductEvaluations

Drake Drake University Fin 129 Academic Misconduct Examples (include but not limited to:) Copying from another student’s paper, laboratory report or other report, or computer files and listings; Using, during a test material and/or devices not authorized by the person in charge of the test; Without the instructors permission, collaborating with another, knowingly assisting another or knowingly receiving the assistance of another in writing an examination or in satisfying any other course requirement;

Drake Drake University Fin 129 Misconduct Continued Incorporating into written assignments materials written by others without giving them credit, or otherwise improperly using information written by others (including that which may be stored on computer disks or other technological devises), or buying and submitting commercially prepared papers as one’s own work; Submission of multiple copies of the same or similar papers without prior approval of the instructors involved; Claiming as one’s own work that which was done by tutors or others with no mention of credit to or the assistance of those persons.

Drake Drake University Fin 129 Grades Individual Assignments 200 points (20%) Sept 21 st 50 points Oct 10 th 50 points Oct 26 th 50 points Nov 30 th 50 points Group Assignments (10%) 100 points (27.5%) Tests 70% Sept 25 th and Nov 6 th 200 points each Final 300 pts

Drake Drake University Fin 129 Course Description Bank Vs. Financial Institutions Management Financial Services Modernization Act 1999 (Gramm-Leach Bliley Act) Breaking down the barriers between Banking, Investment Banking and Insurance.

Drake Drake University Fin 129 The Modern Bank Services Provided: Credit (loan) services Thrift (savings) services Payment (transaction) services Investment and financial planning services Investment Banking (security underwriting) Brokerage (trading) services Insurance Services Other

Drake Drake University Fin 129 Course Topics Depository Institutions and the Financial System. Introduction, financial intermediation Intro to Management UBPR, Dupont Analysis, Financial Analysis Measuring Risk in FI’s GAP analysis (Rate sensitive assets and liabilities) Market, Liquidity, Credit, Operational and other Risks Managing Risk Liability and Liquidity Risk, Capital Adequacy International Aspects Foreign Exchange and Sovereign Risk Geographic Diversification

Drake Drake University Fin 129 For Next Time Go to the class website and download notes. Download outside readings and look them over. Think about who you want to work with for the group projects. If you do not receive a welcome from me, send me an

Drake Drake University Fin 129 Background Financial Institutions (FI) – Channel funds from individuals and institutions with a surplus of funds to (suppliers) to those with a shortage or funds (users of capital). Banks, Credit Unions Insurance Companies Mutual Funds Pension Funds Total assets 2005 = $ Trillion

Drake Drake University Fin 129 Distribution of Assets

Drake Drake University Fin 129 Categories of FI’s Depository Institutions Banks, Savings and loans, Thrifts, Credit Unions Nondepository Institutions Insurance Co’s, Investment Banks, securities firms, mutual funds and finance companies

Drake Drake University Fin 129 Similar Risks and Rewards All Financial Institutions: Hold Assets that are subject to default (or credit) risk Are exposed to interest rate risk based on maturity of assets and liabilities Exposed to liquidity (withdraw) risks Face operational costs and risks

Drake Drake University Fin 129 Without FIs Corporations (net borrowers)) Households (net savers) Cash Equity & Debt ©2003 McGraw-Hill Companies Inc. All rights reserved

Drake Drake University Fin 129 Problems w/o FI’s Monitoring is costly Exposes households to increased risk Lack of Liquidity Households may not be able to easily convert claims to cash Price Risks Prices fluctuate

Drake Drake University Fin 129 With FIs as Intermediaries Cash HouseholdsCorporations Equity & Debt FI (Brokers) FI (Asset Transformers) Deposits/Insurance Policies Cash ©2003 McGraw-Hill Companies Inc. All rights reserved

Drake Drake University Fin 129 Special Roles played by FI’s Economy - Wide Services Information, Liquidity, Price risk reduction, Transaction cost and Maturity intermediation services Institution Specific Services Monetary policy transmission (depository Institutions), Credit allocation (thrifts, farm banks), Intergenerational Transfers (Insurance and pensions, payments services (depository institutions) and Denomination intermediation

Drake Drake University Fin 129 Roles played by FI’s Brokerage Function Research and information provider (reduces information costs such as agency costs) Economies of Scale (decreases transaction costs and information costs) Asset – Transformation Function Purchase primary claims and issue secondary claims (reducing contracting costs) Allows for risk sharing via diversification (reduces price and liquidity risk)

Drake Drake University Fin 129 Other Functions Maturity Intermediation Provides households with desirable maturities Intermediaries are willing to accept longer term risks and finance them with short term deposits. Denomination Intermediation Commercial paper is issued in $250,000 units, too large for most households Payment Mechanism Facilitate the payment of claims w/o cash.

Drake Drake University Fin 129 Special Roles played by FI’s Transmission of Monetary Policy The liquid nature of depository institutions make them the main way monetary policy is transmitted to the public Credit Allocation Primary suppliers of capital to special sectors of the economy (Residential lending for example) Intergenerational Transfer of Wealth Insurance and pension funds

Drake Drake University Fin 129 The Impact of FI’s on Economic Growth Traditional Economic Theories of Growth Labor Usage and Capital Accumulation Limited explanation due to decreasing marginal returns to capital, sustained growth requires productivity growth New Growth Theory Technological change increases productivity that offsets diminishing marginal returns Termed “Endogenous Growth”

Drake Drake University Fin 129 The Impact of FI’s on Economic Growth Financial Development’s Impact Promotes Capital Accumulation & Productivity Growth Rajan and Zingales (1998) Young firms in higher productivity sectors depend upon external financing and benefit from low cost financing associated with financial development Galindo, Schiantarelli, and Weiss (2002) Financial liberalization in developing economies improves capital allocation Both Studies stress the importance of the quality of regulation, supervision and enforcement.

Drake Drake University Fin 129 Regulation Given their vital role in the economy FI’s are highly regulated. The goal of this regulation is to protect against a disruption in the services they offer (provide confidence in the system). Some segments of the population could be discriminated against without regulation (race, gender etc) The difference the private benefits and private costs of regulation are the net regulatory burden.

Drake Drake University Fin 129 Safety and Soundness Regulation Protects borrowers and depositors against failure of the FI Diversification requirements Minimum capital to asset ratios Guaranty funds provisions Monitoring and surveillance

Drake Drake University Fin 129 Monetary Policy Regulation Since Financial Intermediaries serve as a conduit for monetary policy they merit special regulation. Reserve requirements, for example. Might make control of monetary policy more predictable.

Drake Drake University Fin 129 Credit Allocation Regulation Supports lending to portions of the economy deemed socially important (housing and farming are two examples). Requiring a % of assets in a particular sector of the economy for example. Also interest rate restrictions.

Drake Drake University Fin 129 Consumer Protection Regulation Home Mortgage Disclosure Act Prevents discrimination in lending based upon gender, race, age, or income. Requires standardized form on why credit is granted or denied May provide a heavy net regulatory burden without an offsetting social benefit.

Drake Drake University Fin 129 Investor Protection Regulation Protection of investors that use investment banks directly. Insider trading restrictions, lack of disclosure and breach of fiduciary responsibility are examples.

Drake Drake University Fin 129 Entry Regulation Barriers to entry can promote safety and soundness. Also impose costs on current market participants.

Drake Drake University Fin 129 Trends in the US Bank Produced Insurance Rev $ Billions % change Annuities Commercial Property Casualty Credit Coverage Individual Life/Health Total