Objectives 2 (1) The role and functions of the financial system - - PowerPoint PPT Presentation

Part A. Bank as financial intermediary

Lecture 1. Overview of banks and the financial-services sector

Objectives (1) The role and functions of the financial system (2) The role of banks as financial intermediaries

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(1) The role and functions of the financial system

Motivation Credit is essential in the modern economy:

 Individuals (consumer loans, real estate loans);  Companies (working capital loans, investment loans);  Governments (covering the budget deficit, investments).

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(1) The role and functions of the financial system

Funding sources

 Bank loans

 Banking system (predominates in Romania)

 Stocks and Bonds

 Capital markets (predominates in USA)

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(1) The role and functions of the financial system

The concept of financial system covers:

• A. Financial Markets
• B. Financial intermediaries
• C. Financial services firms
• D. Financial institutions

… which implements the financial decisions of households (individuals), firms and governments (as representatives of the states).

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(1) The role and functions of the financial system

A.

The most important component of the financial system is the financial market, the meeting point of supply and demand for a wide range of financial assets:

 stocks and bonds (securities)  financial derivatives  homogeneous commodities (such as oil, grain, steel,

aluminum, gold)

 currencies (Forex)

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(1) The role and functions of the financial system

• B. Financial intermediaries – specialized firms like:

 Banks  Investment funds  Insurance companies

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(1) The role and functions of the financial system

• C. Specialized financial services firms such as:

 Brokerage firms (in Romania, the technical name is

SSIF)

 Consulting firms  Rating agencies  Audit firms

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(1) The role and functions of the financial system

• D. Regulatory and supervisory

institutions @ national level:

 National Bank of Romania (BNR)  for the banking market  Financial Supervisory Authority

(ASF)

 for the stock market, insurance companies

and private pension system

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(1) The role and functions of the financial system

• D. Regulatory and supervisory institutions @

international level:

 European Central Bank (ECB)  Bank of International Settlements  Financial Stability Board

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(1) The role and functions of the financial system The role of the financial system:

 connecting units of capital surplus (U +) with those in

deficit (U-), regardless of type (households, firms, governments) or the geographical location

 directly through financial markets, without the contribution

• f an intermediary;

 indirectly through financial intermediaries.

=> Efficient allocation of capital !!!

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(1) The role and functions of the financial system Direct finance

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Barriers: 1) the difficulty and expense of matching the complex needs of individual borrowers and lenders; 2) the incompatibility of the financial needs of borrowers and lenders:

• lenders want to lend their assets for short periods of time

and for the highest possible return;

• borrowers demand liabilities that are cheap and for long

periods.

(1) The role and functions of the financial system The intermediation function

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(1) The role and functions of the financial system Direct and indirect finance

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(1) The role and functions of the financial system Modern financial intermediation

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(1) The role and functions of the financial system Financial system functions:

a) transferring resources in space and time; b) concentrating resources and assuring their divisibility; c) clearing and settlement of payments of a commercial nature; d) risk management; e) advice for financial decisions; f) addressing motivation and asymmetric information (adverse selection, moral hazard).

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(2) The role of banks as financial intermediaries

Banks are financial intermediaries which core activity is to provide loans to borrowers and to collect deposits from savers.

 Deposits: small-size, low-risk and high-liquidity;  Loans: larger-size, higher-risk and illiquid.

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(2) The role of banks as financial intermediaries

Banks meet three essential functions:

 size transformation

 savers/depositors are willing to lend smaller amounts of money

than the amounts required by borrowers;

 maturity transformation

 banks transform funds lent for a short period of time into medium-

and long-term loans;

 risk transformation

 banks are able to minimise the risk of individual loans by

diversifying their investments, pooling risks, screening and monitoring borrowers and holding reserves for unexpected losses.

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(2) The role of banks as financial intermediaries

Distribution of assets in the Romanian financial sector (2016 Q2)

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(2) The role of banks as financial intermediaries

Structure of the Romanian financial system (assets as a share of GDP)

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(2) The role of banks as financial intermediaries

Relative sizes of banking and non‐bank financial sectors in CEE countries

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(2) The role of banks as financial intermediaries

The share of exposures to and funds raised from domestic financial institutions in the balance sheet of credit institutions

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(2) The role of banks as financial intermediaries

The share of exposures to credit institutions in the assets of financial sectors

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