an overview of banks and financial sector service

McGraw-Hill/Irwin

1-1

© 2006 The McGraw-Hill Companies, Inc., All Rights Reserved.

CHAPTER TWOAn Overview of Banks and the

Financial Services Sector

Bank And Other Financial Service CompetitorBank And Other Financial Service CompetitorDefinition Definition HistoryHistoryTypeTypeFunctions Functions Services offeredServices offeredChallenges facedChallenges faced

Chapter 1, Rose and HudginsChapter 1, Rose and Hudgins

McGraw-Hill/Irwin

1-2


What is a Bank?

A bank can be defined in terms of A bank can be defined in terms of

1) Economic function1) Economic function Transferring funds from savers to borrowers Transferring funds from savers to borrowers

(financial intermediaries) (financial intermediaries) Paying for goods and servicesPaying for goods and services

2) Services it offers2) Services it offers Checking accounts, savings plans and loansChecking accounts, savings plans and loans But, expanded to security underwriting, insurance But, expanded to security underwriting, insurance

protection, merging companies etc.protection, merging companies etc.

3) legal basis for existence 3) legal basis for existence (regulations)(regulations)

A bank is any business offering deposits subject to A bank is any business offering deposits subject to withdrawal on demand and making loans of a withdrawal on demand and making loans of a commercial or business naturecommercial or business nature

McGraw-Hill/Irwin

1-3


The Different Kinds of Banks Today

Commercial BanksCommercial Banks: Sell : Sell depositsdeposits and make and make loansloans to to businessesbusinesses and and individualsindividuals

Savings BanksSavings Banks: Attract : Attract savings depositssavings deposits and and make loansmake loans to to individualsindividuals and and familiesfamilies

Cooperative BanksCooperative Banks: Help : Help farmersfarmers, ranchers, , ranchers, and consumers acquire goods and servicesand consumers acquire goods and services

Mortgage BanksMortgage Banks: Provide : Provide mortgage loansmortgage loans on on new homesnew homes and and housing projectshousing projects

McGraw-Hill/Irwin

1-4


Community BanksCommunity Banks: : Smaller, locallySmaller, locally focused commercial and savings banksfocused commercial and savings banks

Money Center BanksMoney Center Banks: Large commercial : Large commercial banks based in leading banks based in leading financial centersfinancial centers

Investment BanksInvestment Banks: Underwrite : Underwrite issues of issues of new securitiesnew securities by their customers ( by their customers (IPIPO)O)

Merchant BanksMerchant Banks: Supply both : Supply both debt and debt and equity capitalequity capital to businesses to businesses


McGraw-Hill/Irwin

1-5


International Banks:International Banks: Commercial Commercial banks present banks present more than one nationmore than one nation

Wholesale Banks:Wholesale Banks: Large commercial Large commercial banks serving banks serving corporations and corporations and governmentsgovernments

Retail Banks:Retail Banks: Smaller banks serving Smaller banks serving primarily primarily households and small households and small businessesbusinesses

Bankers’ Banks:Bankers’ Banks: Supply services Supply services (Check clearing and security trading) to (Check clearing and security trading) to banksbanks


McGraw-Hill/Irwin

1-6


Minority Banks:Minority Banks: Focus on customers Focus on customers from from minority groupsminority groups

National Banks:National Banks: Function under federal Function under federal charter (charter (NCBsNCBs))

State Banks:State Banks: Function under charter of Function under charter of the statethe state

Insured Banks:Insured Banks: Maintain Maintain deposits deposits backedbacked by federal deposit insurance by federal deposit insurance plansplans


McGraw-Hill/Irwin

1-7


Member (Scheduled) Banks:Member (Scheduled) Banks: Belong to Belong to the Federal Reserve Systemthe Federal Reserve System

Affiliated Banks:Affiliated Banks: Wholly or partially Wholly or partially ownedowned by a by a holding companyholding company

Fringe Banks:Fringe Banks: Offer payday and title Offer payday and title loans, cash checks, rent to own firmsloans, cash checks, rent to own firms

Universal Banks:Universal Banks: Offer virtually Offer virtually all all financial servicesfinancial services available in today’s available in today’s marketplacemarketplace


McGraw-Hill/Irwin

1-8


Investment and Commercial BankingInvestment and Commercial Banking

Investment banking is banking with the help of Investment banking is banking with the help of financial instruments, which are of financial instruments, which are of security paperssecurity papers in in nature, while in case of commercial banking, this is nature, while in case of commercial banking, this is banking with banking with cash modecash mode of financial instruments. of financial instruments.

Merchant BankingMerchant Banking

In BangladeshIn Bangladesh MBs have been provided licenses, not MBs have been provided licenses, not for undertaking full range of investment banking for undertaking full range of investment banking activities, rather only for providing services namely, activities, rather only for providing services namely, new issue management, underwriting and personal new issue management, underwriting and personal portfolio services to general investors.portfolio services to general investors.

Different Types of Activities of Banks/FI

McGraw-Hill/Irwin

1-9


Mutual FundMutual Fund

A mutual fund is a financial intermediary that sells A mutual fund is a financial intermediary that sells shares of individuals and then invest the proceeds in shares of individuals and then invest the proceeds in bonds or stocks. Mutual Fund may be open ended or bonds or stocks. Mutual Fund may be open ended or closed ended.closed ended.

Closed-end Funds vs. Open-end Funds

LeasingLeasing

Leasing means equipment financing. It is a contract Leasing means equipment financing. It is a contract between two parties, lessor and lessee, that conveys between two parties, lessor and lessee, that conveys the right of possession and use of specific asset to the right of possession and use of specific asset to the lessee for specific span of time and in return the lessee for specific span of time and in return lessee pays predetermined rentals to the lessor.lessee pays predetermined rentals to the lessor.


Type How Shares are Bought Sales Price Shares Outstanding

Closed-end Stock Exchange Market price Fixed

Open-end Directly through fund Net asset value Varies

McGraw-Hill/Irwin

1-10


Unit banking Vs. Branch bankingUnit banking Vs. Branch banking

•Unit banking is confining its operation mostly to a single Unit banking is confining its operation mostly to a single office or a number of offices in a single region ( U.S. office or a number of offices in a single region ( U.S. system)system)

•while branch banking is a system of banking where while branch banking is a system of banking where business is carried with a network of branches business is carried with a network of branches throughout the country. throughout the country.

•The unit banks are linked together with a system of The unit banks are linked together with a system of correspondent banks.correspondent banks.

Retail Vs. Wholesale/Corporate/Institutional BankingRetail Vs. Wholesale/Corporate/Institutional Banking

•Retail banking is small denomination/volume banking Retail banking is small denomination/volume banking

•while wholesale banking is large denomination bankingwhile wholesale banking is large denomination banking


McGraw-Hill/Irwin

1-11


Main BankingMain Banking

•In Japan, it is a very common saying that “Bank X is the main In Japan, it is a very common saying that “Bank X is the main bank of Firm Y” or “Firm Y has Bank X as its main bank.” bank of Firm Y” or “Firm Y has Bank X as its main bank.”

•The main bank relationship is a long-term relationship between The main bank relationship is a long-term relationship between a firm and a particular bank from which the firm obtains its a firm and a particular bank from which the firm obtains its borrowings. borrowings.

•The term “main bank system” thus refers to a system of The term “main bank system” thus refers to a system of corporate financing, monitoring and governancecorporate financing, monitoring and governance..

Universal BankUniversal Bank

•These are banks, which provide both banking as well as non-These are banks, which provide both banking as well as non-banking financial servicesbanking financial services

•German banking is the forerunner of this conceptGerman banking is the forerunner of this concept


McGraw-Hill/Irwin

1-12


International BankingInternational Banking

The term international banking has been used to refer to the The term international banking has been used to refer to the cross-border and cross-currencycross-border and cross-currency aspects of banking business. aspects of banking business.

Multinational bankingMultinational banking

The term, multinational banking, has been referred to the location The term, multinational banking, has been referred to the location and ownership of banking facilities in a large number of countries and ownership of banking facilities in a large number of countries and and geographic regionsgeographic regions..


McGraw-Hill/Irwin

1-13


The Financial Service Competitors of BanksOther Financial Intermediaries

Savings and Loans AssociationsSavings and Loans Associations: Sell : Sell savings deposits and grant home savings deposits and grant home mortgage loans to mortgage loans to individuals and individuals and familiesfamilies

Savings BanksSavings Banks: Sell savings deposits, : Sell savings deposits, grant grant consumer and home mortgage consumer and home mortgage loansloans, and invest in high-quality , and invest in high-quality securities>under charters of the govt.securities>under charters of the govt.

Credit Unions:Credit Unions: Collect deposits from and Collect deposits from and make loans to their make loans to their membersmembers as as nonprofit associations of individuals nonprofit associations of individuals sharing a common bondsharing a common bond ( (same employersame employer))

McGraw-Hill/Irwin

1-14


Money Market FundsMoney Market Funds:Collect short :Collect short term, liquid funds from individuals and term, liquid funds from individuals and institutions>by buying shares in the institutions>by buying shares in the fund>invest the collected fund in fund>invest the collected fund in quality securities of short durationquality securities of short duration

Mutual Funds (Investment Mutual Funds (Investment Companies)Companies):Sell shares to the public :Sell shares to the public representing an interest in the value of representing an interest in the value of and returns from a professionally and returns from a professionally managed pool of stocks managed pool of stocks

Hedge Funds:Hedge Funds:Sell shares to invest in Sell shares to invest in less liquid and more risky less liquid and more risky assets>unregulatedassets>unregulated

The Financial Service Competitors of Banks

McGraw-Hill/Irwin

1-15


Security Brokers and Dealers:Security Brokers and Dealers:Buy and Buy and sell securitiessell securities

Finance Companies:Finance Companies:Offer loan to Offer loan to commercial enterprises and to consumerscommercial enterprises and to consumers using funds borrowed from in the open using funds borrowed from in the open market or from other financial institutionsmarket or from other financial institutions

Financial Holding CompaniesFinancial Holding Companies:Credit card :Credit card company, insurance and finance company, insurance and finance companies and security broker etc. under companies and security broker etc. under one corporate umbrellaone corporate umbrella

Life and Property-Casualty Insurance Life and Property-Casualty Insurance CompaniesCompanies: Protect against risk of : Protect against risk of persons or propertypersons or property

The Financial Service Competitors of Banks

McGraw-Hill/Irwin

1-16


Traditional Services Offered By Banks

Exchange of CurrencyExchange of Currency: One of the : One of the first service offered by banksfirst service offered by banks

Commercial Notes and LoansCommercial Notes and Loans: : Discounting of debts (accounts Discounting of debts (accounts receivable)>Also provided by finance receivable)>Also provided by finance and insurance companiesand insurance companies

Offering Savings DepositsOffering Savings Deposits: Raising : Raising funds>funds>Greece bankers and ship Greece bankers and ship ownersowners

Safekeeping of Valuables:Safekeeping of Valuables: “Goldsmiths” and their certificates“Goldsmiths” and their certificates

McGraw-Hill/Irwin

1-17


Supporting Government Activities Supporting Government Activities with Creditwith Credit: Purchasing government : Purchasing government bondsbonds

Checking Accounts:Checking Accounts: Demand deposit Demand deposit service> service> Current AccountCurrent Account>Also >Also provided by savings association, provided by savings association, credit unions, securities firms.credit unions, securities firms.

Trust Services: Trust Services: Managing the Managing the financial affairs and property of financial affairs and property of individuals and business firms in individuals and business firms in return for a feereturn for a fee

Traditional Services Offered By Banks

McGraw-Hill/Irwin

1-18


Recent Services of Banks and FIs

Consumer Loans: Consumer Loans: Financial AdviceFinancial Advice: Use of credit and investment of funds: Use of credit and investment of funds Cash ManagementCash Management: Collects cash, make payments and : Collects cash, make payments and

invest the surplus in short term interest bearing assets.invest the surplus in short term interest bearing assets. Equipment LeasingEquipment Leasing: Rent to the customer: Rent to the customer Venture Capital LoansVenture Capital Loans: Finance the start up cost of high : Finance the start up cost of high

tech new venturestech new ventures Selling Insurance ProductsSelling Insurance Products: US case>Bank vs Ins. Co.: US case>Bank vs Ins. Co. Security Underwriting and Brokerage ServicesSecurity Underwriting and Brokerage Services: Banks as : Banks as

“financial department stores”: “financial department stores”: US CaseUS CaseGlass-Steagall Act 1933>>Gramm-Leach-Bliley Act1999Glass-Steagall Act 1933>>Gramm-Leach-Bliley Act1999

Mutual Funds and AnnuitiesMutual Funds and Annuities:: Merchant Banking Services: Merchant Banking Services: Temporary purchase of Temporary purchase of

corporate stock> to aid launching of new businesscorporate stock> to aid launching of new business

McGraw-Hill/Irwin

1-19


Trends Affecting Banks and Other Financial Service Firms Today

Service ProliferationService Proliferation: Non-interest service fees vs. : Non-interest service fees vs. interest earned on loansinterest earned on loans

Rising Competition: Rising Competition: DeregulationDeregulation Government DeregulationGovernment Deregulation: Broadening the service field: Broadening the service field Increased Interest Rate SensitivityIncreased Interest Rate Sensitivity: of customers: of customers Technological ChangeTechnological Change: ATM, cell phone, POS: ATM, cell phone, POS Consolidation and Geographic ExpansionConsolidation and Geographic Expansion E-Banking and E-Commerce: E-Banking and E-Commerce: Operating costsOperating costs ConvergenceConvergence: crossing industry line to broaden : crossing industry line to broaden

service baseservice base GlobalizationGlobalization:: Increased Risk of Poor Performance and FailureIncreased Risk of Poor Performance and Failure

McGraw-Hill/Irwin

1-20


World’s Largest Banks

Bank Assets ($Millions)

Citigroup (USA) 1,097,000

Mizuho Financial Group (Japan) 945,688

UBS (Switzerland) 825,000

Sumitomo Mitsui Fin. (Japan) 802,674

Deutsche Bank (Germany) 794,984

Bank of Tokyo-Mitsubishi (Japan) 789,495

McGraw-Hill/Irwin

1-21


Pertinent Websites

The Banker

Federal Reserve

Wall Street Journal

Bangladesh Bank

www.thebanker.com

www.federalreserve.gov

www.wsj.com

www.bangladesh-bank.org

McGraw-Hill/Irwin

1-22


HISTORY OF BANKS AND OTHER FINANCIAL-SERVICE HISTORY OF BANKS AND OTHER FINANCIAL-SERVICE FIRMSFIRMS

(Page 7: Insights and Issues)(Page 7: Insights and Issues)

Review Questions:Review Questions: What are the services offered by banks 2000 years ago?What are the services offered by banks 2000 years ago? What was the source of funds to the earliest bankers?What was the source of funds to the earliest bankers? Why banking faced religious opposition in the Middle Ages ? Why banking faced religious opposition in the Middle Ages ?

How it was resolved?How it was resolved? What led to the development of banking in the 15What led to the development of banking in the 15thth to 17 to 17thth

century?century? Why in the early Europe people used to deposit wealth in the Why in the early Europe people used to deposit wealth in the

goldsmiths’ shops?goldsmiths’ shops? How money was developed?How money was developed? What is certification of value services?What is certification of value services? How financial service competitors, such as insurance How financial service competitors, such as insurance

companies came into existence?companies came into existence? When and where first Mutual Funds emerged?When and where first Mutual Funds emerged? How mutual funds, money market funds, hedge funds attracted How mutual funds, money market funds, hedge funds attracted

bank deposits?bank deposits?

an overview of banks and financial sector service

Documents