1 Intro Flashcards
What are the different type of banks
Central Banks
Commercial Banks
Investment Banks
What are the main tasks of the central bank?
a) Control the nations money supply: interest rates, reserve requirements
b) Oversee the commercial banks
How does the central bank control a nations money supply?
a) Managing interest rates
b) Setting the reserve requirement
c) Acting as lender of last resort during hard financial times
What are some of the central banks?
Norges Bank, Federal Reserve System (FED), European Central Bank (ECB)
What is the three main policy tools of central banks?
a) Open market operations
* Buy and sell securities in the open market.
- Buying securities = injcecting money
- Selling securities = withdrawing money
b) Lender of Last Resort:
* central bank’s role as a source of funding for banks and other financial institutions during times of financial stress or crisis
c) Minimum reserve requirements:
* Amount of money that banks are required to hold in reserve.
- By adjusting, central banks can control the amount of money banks have available to lend
IKKE I PENSUM:
Interest rate
* The rate which banks can borrow from the central bank
- Courage or discourage banks from borrowing, which in turn affects amount of money in economy
What are the main tasks of commercial banks?
Deposite accounts, give loans, basic investment services such as savings accounts
What are credit unions or mutual banks?
Not-for-profit organizations, but not for charity. Offer many of the same services as banks.
What is the difference between credit unions and “normal” banks?
When you invest in a credit union, you get an ownership in the union. Banks are normally owned by investor, which does not need to have money in that bank.
- Who are some of the most known investment banks?
Goldman Sachs, Morgan Stanley
- What are the main tasks of investment banks?
To help corporations, governments and individuals by raising capital. Mainly serve businesses. Often involved in M&A and IPOS.
- What is the role of investment banks?
Function as a underwriter/agent in the issuance of securities
- What is the key difference between commercial banking and investment banking?
IBs does not take deposits.
IBs has freedom to take more risk; commercial banks are more regulated by government.
Commercial: more governed. Less freedom. To protect the customer. Insured by the federal government.
- What is the interbank market?
A debt market among banks.
- Why does banks use the interbank market?
a) Manage liquidity
* Banks may need to borrow money from other banks on a short-term basis to meet their own liquidity needs.
b) and satisfy regulations (such as reserve)
- What interest rates does the interbank market use?
Federal funds Rate (USA)
LIBOR (UK)
Euribor (Eurozone)
- What was the Libor Scandal?
2012.
Banks manipulated the interest rates. Falsely inflating or deflating their rates. They did this because they wanted to:
a) Profit from trading
b) Impression of creditworthiness
- What is the commercial & industrial (C&I) loan market?
Loans made to a business or corporation either to provide working capital or CAPEX.
Always collateral.
- C&I loans are usually made due to what purposes?
Operational purposes
- What is revolving credit or lines of credit?
A revolving line of credit is a type of loan that allows you to borrow money when you need it and pay interest only on what you borrow. Then, if you pay back any of the borrowed funds before the end of the draw period, you can borrow that money again.
- What is the main function of the mortgage loan market?
Someone wants to buy a property. Get liquidity from bank in exchange for a mortgage.
What is subprime lending?
• Loans to borrowers with poor credit scores or low income
• these loans had
a) Lower credit standards (To people with poor credit scores)
b) Lower down payment requirement (not required to provide a significant upfront payment when purchasing a property, EGENKAPITAL)
c) More flexible term than traditional mortgages (interest rates, longer loan terms etc.)
What are the three main banking services?
Individual Banking - help people to manage their finances
Business Banming - Business gets different type of service
Digital Banking - Digital services
What has facilitated the harnessing of economies of scale in the banking industry during the last decades?
Information Technology (IT)
How did many financial institutions survice during/after the financial crisis?
Bailout of banks by national governments
What are the main reason for the past financial crisis?
a) The Low Federal Funds Rate
* After dot-com 2000 and concerns about deflation and japanese stagnation, FED lowered the rate from 6.5& to under 2% in 2001
b) Government Housing Policy
* Fannie Mae and Freddie Mac
* LMIs
*Subprime Loans
c) Soaring Risk from Securitazation
* Mortages where packaged into complex securitization packages, which were sold to investors
* Often highly rated, but in reality, of poor quality
Why was the Federal Funds Rate so low before the financial crisis?
a) Dot-com bubble busted 2001
b) Concerns about Japanese stagnation in the 90s and deflation
What was the FED real rate before the crisis?
1% until 2004, combined with 2% inflation. Hence, a negative real rate
What was the main factors of the Government Housing Policy?
a) Fannie Mae and Freddie Mac (GSE)
b) Lending to Minorities (LMIs)
c) Subprime Loans
What did businesses and households do due to the low interest rates (before crisis)?
Borrowing became attractive for both businesses and households. Cheap liquidity was seen as a perfect for many that was interested in buying a home (big investment for people)
What happened to the household debt and house prices due to the cheag liquidity before the crisis?
Cheap liquidity, businesses and households borrowed. Big increase in both household debt and house prices
What was the role of Fannie Mae and Freddie Mac?
To provide liquidity for banks
How did Fannie Mae and Freddie Mac provide liquidity for banks?
The low interest rate made many people borrow liquidity from banks
Based on this, banks would be low on liquidity
But Fannie Mae and Freddie Mac bought mortages from lenders and pooled them into securities, which they sold to investors
What is securitization?
When assets are pooled so that they can be repackaged into interest-bearing securities.
Does securitazion make the credit market more efficient?
Yes, but is more complex and risky
What is GSEs?
Government Sponsored Enterprises, like Fannie Mae and Freddie Mac
What is LMIs
Lending to Minorities
When did LMIs start
1977
Explain what LMIs was
Congress started program to expand mortage lending to minorities and low and moderate income groups
Gave away “affordable housing loans”
What was the goal of LMIs
Push home ownership higher
What happened to the Credit Standards due to LMIs?
The credit standards was pushed even lower
What was Subprime Loans?
Loans to borrowers with poor credit scores
How low did conventional down payment decline due to Subrime Loans?
From 20% to 3.5%
How were the shares of pools of mortage securitization sold as “reasonably safe securities”?
The borrowers was diversified acrss geographical regions and economics
How was the pools credit rating manipulated?
Lower tranches were put together with tranches from other pools that carried lower risk. By combining them, the overall risk of the pool was distributed over a large number of loans, making it appear less risky.
Pros with securitization?
Makes the market more efficient
Cons with securitization?
Gets more complicated and difficult to price and monitor (regulate). Hence, it is more risky
What is a bank run
When many people withdraw money from the bank at the same time
What is TARP?
Troubled Asset Relief Program.
Created by U.S Treasury to stabilize the financial system.
TARP bought troubled companies assets and stocks
Why is a bank run so risky?
Many bank customers withdraw their deposits
This increases probability of default
This makes even more people withdraw money
In extreme cases, the bank reserves might not be enough to cover the withdrawals
Largest bankruptcy filing in history, and how big was the assets/debt?
Lehman brothers (IB)
Assets: $639 million
Debt: $619 million
Why was Lehman Brothers so vulnerable?
1) High degree of leverage.
2) Huge portfolio of mortage securities
What is a repo
Repurchase agreement
What is a run on repo?
a) Repo
• Repurchase agreement. Financial transaction where one party (usually a borrower) sells a security to another party (usually a lender) with an agreement to repurchase the security at a later date and at a slightly higher price.
b) Run on Repo:
• A run on repo occurs when lenders or investors lose confidence in the borrower’s ability to repurchase the securities in a repo agreement.
• Can lead to a situation where lenders demand their securities back, and the borrower may struggle to fulfill those demands, potentially causing a liquidity crisis
What happened after the collapse of Lehman brothers?
Triggered a run on repos in the interbank market and a run in the stock market.
Both markets collapsed in the following month, starting the most serious financial crisis since the Great Depression in the 1930s.
What is the “too big to fail” theory?
Certain corporations and particularly financial institutions are so large and interconnected that their failure would be terrible for the greater economic system.
Hence, they should be supported by the government when they face potential failure
2 of the different types of typical government interventions (injections)?
1) Liquidity injections (through assets purchase, debt guarantee or direct debt)
2) Equity injections
What is liquidity injections
asset purchase
debt guarantee
direct debt
What happened to Northern Rock
was nationalized
How did Government interventions raise Credit Availability?
a) Removing poisonous assets
b) Debt guarantee
c) Relacing the requirement of collateral
d) Increase in borrowers net worth
Give an historic insight in FinTech
1950s - Credit Cards - Ease the risk and burden of only carrying cash
60s - First ATMs
70s - Electronic Stock Trading
80s - Rise of bank computers
90s - Internet and e-commerce models flourished, online stock brokerage websites aimed at retail investors
Banks and FinTech in developing countries
Banks have nor really penetraded developing countries.
Many there use payments apps. This is also getting bigger in the western world.
FinTech - The Case of China
The traditional wallet has been replaced by an electronic wallet on a smartphone.
China is today the most cash-free society of any of the worlds major economies
