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The Banking Firm

Mishkin, Chap 9

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1. The Bank’s Capital Account: Mark each of the following as an asset or a liability

Checkable deposits:

Bank reserves

Discount loans,

Repo’s

Bank capital

The building/equipment

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T-bonds, notes, bills

Municipal bonds, Federal govt. agency bonds

Non-transaction deposits:

Federal funds

Commercial loans

Real estate loans

Consumer loans

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II. Basic Banking: T-account analysis1. You deposit $100 cash into your account with the First National Bank (FNB)(FNB) Assets (FNB) Liabilities

_______________ ___________________

2.You deposit a $100 check into your account with the FNB. The check is drawn on Second National Bank (SNB).

FNB (Initial) Assets FNB (Initial) Liabilities

____________________ _____________________

FNB (Final) SNB (Final)Assets Liabilities Assets Liabilities

Conclusion:

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III. Principles of bank managementBank manager manages these four:

1. Liquidity –

2. Assets –

3. Liability –

4. Capital –

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1. Liquidity management

The following bank maintains only the required amount of reserves at any point of time. Is it a wise decision?

AssetsReserves $10m

LiabilitiesDeposits $100 m

Loans $90 mSecurities $10 m

Bank capital $10 m

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What can the bank do to acquire reserves at a short notice? Note the costs

(i) Borrow from other banks (__________) /from corporations (_______)

(i) Sell securities such as _______

(i) Borrowing from the FED (________ loans)

(i) Calling in loans/selling of loans in secondary markets

Conclusion:

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2. Asset management

basic principle of asset management: banks have high need of liquidity compared to other financial intermediaries; hence they are restricted in their choice of assets:

(i) find borrowers with ________

these risks are compounded by adverse selection and moral hazard problems. Usual strategies (managing credit risks) to safeguard against these are

• find securities with ________

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(iii) diversify: besides default risk, the other most important type of risk that banks have to safeguard against is ________.

Managing ___________risk

Assets Liabilities

Rate sensitive assets 20m Rate sensitive liabilities 50m i. variable-rate loans i. variable rate CDsii short-term loans ii. money market accountsIii short term securitiesFixed rate assets 80m Fixed rate liabilities 50mi.reserves i.checkable depositsii.long-term loans ii.savings depositsiii.long-term securities iii.long-term CDs

Conclusion: If interest sensitive assets are less than interest sensitive liabilities banks can _________ if interest rates _________.

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4. Capital management Bank capital

(i) is a cushion against __________

(ii) determines the rate of return for owners

Net profit after tax / equity capital= (___________/ _________) x (_________/ ___________)

(iii) required by law