Topic 6 Flashcards
The future creates uncertainty as it is unknown, what is an exogenous shock?
A significant event which happens without warning, can have major and lasting effects on political, economic and social systems
What is volatility? Give an example
It is a source of uncertainty, refers to the extent to which there are large swings between highs and lows
The more volatile a situation is, the more unstable and difficult to predict it is
Eg)exchange rate fluctuations, interest rate fluctuations, weather changes
Uncertainty cannot be measured so it cannot be managed, but risk can, how can risk be measured?
By using past data, allows to estimate the likelihood of something happening again, this estimate is risk, risk can be measured in terms of probability
What is a pure risk?
If the possible change is something that will be harmful or damaging, will have only a negative outcome
Name 5 potential negative outcomes of a pure risk
Physical injury Death Damage/loss of possessions Legal liability Financial loss
What is a speculative risk?
Good or bad outcome, faced by someone taking a chance
Being aware of risks means we can make provisions, what sort of risks do financial providers face?
Banks face risk that borrowers will fail to repay loans or interest rates will rise
Insurers take on others risks and face risk of more losses than calculated
The impact of risk is measured in terms of the amount of financial loss, what does the amount of loss depend on?
The amount of exposure to the individual
The amount of loss to a bank is the amount they have lent out
What is expected loss?
Average amount of loss - eg) credit risk of failing to repay - the amount is based on past experience and knowledge of customers - because banks expect some loss, must consider ways of keeping loss under control
What is unexpected loss?
The amount by which actual loss might exceed the expected loss - banks must find out the reason why (unexpected shock or unrealistic predictions)
What is catastrophic loss?
Loss in excess of unexpected loss that is unlikely, but may happen, and if it does then consequences will be devastating
Name 10 aspects of uncertainty
Changing rates of inflation Stock market volatility Economic uncertainty Attitudes to credit and debt Institutional issues Tightening regulation Changing weather patterns Religious attitudes Ethical and environmental concerns Terrorist attacks
How does the government control inflation?
Use interest rates to curb inflation, rose in inflation means BoE will raise interest
Why is the government waiting to sell their shares in RBS and LBS?
To ensure it returns as much of the funds used to bail out the banks back to the public purse
Sale at lower price may gain support during general election but most analysts and economists agree that it is a better strategy to wait as funds will offset some government deficit
Who required RBS and LBG to undergo divestment?
The 2009 EUs Competition Commissioner
What is divestment?
Dispose of some parts of business to make smaller and improve competitiveness
What was Project Rainbow?
RBS disposed of 300 branches and some insurance brands such as Churchill
Sale to Santander collapsed, so plans to revive Williams and Glyns to create a challenger bank
What was Project Verde?
LBS converted 630 branches into seperate bank TSB
What are 5 main activities within the ring fence?
Providing current accounts and payment services
Providing savings accounts
Lending
Trade and project finance
Advising and selling non ring fenced products when no exposures created
4 arguments in favour of ring fencing ?
Large banks which are too big to fail, makes 2 smaller banks, easier to protect retail section
Basic retail banking is a necessity - must be available or economy will not function
Large banks difficult to control and suffer diseconomies of scale - makes retail division easier to regulate and supervise
Rescue bad reputation
3 reasons against ring fencing?
Doesn’t reduce inter connectivity which causes the crisis
Less funding available which increases cost of accessing funds, would have to pay more to savers to be attractive which would increase cost to borrowers
Could be better just to tighten regulation
Explain the impacts of changing regulation?
Increasing quantity of regulation puts pressure on providers which increases cost and leads to closure of smaller banks
What is regulatory risk?
Risk to providers of Increasing and tightening regulation
Name 4 costs of compliance with regulation?
Cost of compensation to victims of mis selling
Administrative costs
Costs of compliance to BCOBS and lending code means training
Direct cost of employing dedicated compliance staff
In what 2 ways do providers react to cost to protect profit margins?
Increase prices
Stop granting small loans as not profitable enough to cover cost of compliance
How do smaller organisations such as IFAs try reduce burden of compliance?
By joining a network who they pay a fee to recover specific support services whilst retaining full control
Spreads cost of compliance across all members
In what 2 ways can people deal with risk of catastrophes from weather events
Avoidance - try eliminate financial impact but limited options
Preparation - try reduce loss of potential event eg disaster recovery planning to protect IT systems
What is sharia law based on?
Moral values and ethical considerations
What is Riba?
The prohibition of interest - sharia compliant law is based on principle of shared risk and shared profit
What is gharar?
Uncertainty in business transactions: forbidden to base transactions on an excessive underlying risk
What were the views of the Archbishop of Canterbury of financial providers?
Criticised payday lenders for high interest rates and fees
Church encourages the expansion of credit unions
What was the Pensions Ministers views on pension funds in 2013?
Pension funds should be climate resilient, not exposed to long term risks
What type of companies do Share Action think pension funds should invest in?
Pension funds invest too much in companies using carbon intensive fuels, those moving towards recyclables will be more valuable in the future
What is the UKs Green Investment Banks?
Owned wholly by the government who want to make a stronger, greener economy
Purpose is to help government to achieve sustainability targets in a cost effective way, by offering capital investment to projects which are commercial and green
