TOC
1. Bank, banking and financial intermediaries
Bank and banking are different concepts
Banking refers to the process and business of operating a bank and providing banking services. A bank is a company that specializes in the business of provide banking services. Some proper terminologies:
- ✅: Banking industry, Banking business, banking system, banking services
- ❌: Bank industry
2. Overview of banking business
Basic banking business:
- Banks conduct basic banking business by taking deposits and making loans
- Banks also provide payment mechanisms alongside their basic business. Competitors of the banks include cryto currencies, interest companies, etc.
- Banks supply basic banking services to individuals, household, companies, governments, and non-government organizations. Safekeeping deposits and supply credit
- A bank’s profit from the basic banking business it based on the spread between the loan rate and the deposit rate. The expected banks’ profits hike when interest rise.
Fee generating business:
It is also called investment banking business. Examples include
- M&A advising (deal initiation, valuation, due diligence, structuring means of payment, financing, etc.)
- Syndicated lending (loan initiation, syndication, administration, lead lender, particapants)
- Advising on fund raising, e.g. IPO, SEO, bond issuance
- Proprietary trading, i.e. trading on their own accounts. Bonds, equity, commodities, derivatives.
- However, the Volcker Rule 2009 restricts proprietary trading to prevent banks from over exposure to risk
- Market making
- Wealth management
Banks differ in their business focus
Universal banks provide a wide range of banking services, e.g. Barclays, JP Morgan Chase, Bank of America.
Commercial banks focus on basic banking service, e.g. Lloyds banking group (which also offers insurance and invests in properties).
Investment banks focus on investment banking services, e.g. Morgan Stanley, UBS.
Retail banking business & wholesale banking business
- Retail banking serves individuals and small companies
- large number of transactions
- small transaction size
- low value added for banks, but necessary as a main source of fund
- Wholesale banking serves very wealthy individuals, medium to large companies, governments, and other organizations
- small number of transactions
- large transaction size
- high value added for banks
3. Bank’s Balance Sheet
Liabilities:
- Sight deposits
- kept in chequable accounts/current accounts
- depositors can withdraw at instant notice, transfer it to other accounts at any time and issue cheque on the deposits
- low interests
- Time deposits
- kept in savings accounts
- can only be withdrawn with prior notice or at a specified time
- higher interests
- Bond market funds
- Money market funds
Equity:
- Capital shareholders
Asset:
- Lending to household
- Lending to firms
- Lending to other banks
- Lending to governments
- Others
4. Liquidity management
It is essential for bank operation
- Banks keep the required level of cash reserve as a percentage of total liabilities. It is a buffer of cash to meet with withdrawal requirements
when banks cannot meet the reserve rate requirement, it can take actions as below:
- Sell marketable securities
- Take new deposits
- Borrow from other banks or from the central bank
- Raise new capital
Example:
As for the second one, we don’t need to worry about the reserve requirement even if 50M deposit is withdrawed.
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