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1、Chapter 9Banking and the Management of Financial Institutions 2005 Pearson Education Canada Inc.The Bank Balance Sheet2 2005 Pearson Education Canada Inc.Bank OperationT-account Analysis:Deposit of$100 cash into First BankAssetsLiabilitiesVault Cash+$100Chequable Deposits+$100(=Reserves)Deposit of$1
2、00 cheque into First BankAssetsLiabilitiesCash items in processChequable Deposits+$100of collection +$100First BankSecond BankAssetsLiabilitiesAssetsLiabilitiesChequableChequableReservesDepositsReservesDeposits+$100+$100$100$100Conclusion:When bank receives deposits,reserves by equal amount;when ban
3、k loses deposits,reserves by equal amount3 2005 Pearson Education Canada Inc.Principles of Bank Management1.Liquidity Management2.Asset ManagementManaging Credit RiskManaging Interest-rate Risk3.Liability Management4.Capital Adequacy Management4 2005 Pearson Education Canada Inc.Principles of Bank M
4、anagementLiquidity ManagementDesired reserve ratio=10%,Excess reserves=$10 millionAssets LiabilitiesReserves$20 millionDeposits$100 millionLoans$80 millionBank Capital$10 millionSecurities$10 millionDeposit outflow of$10 millionAssets LiabilitiesReserves$10 millionDeposits$90 millionLoans$80 million
5、Bank Capital$10 millionSecurities$10 millionWith 10%desired reserve ratio,bank still has excess reserves of$1 million:no changes needed in balance sheet5 2005 Pearson Education Canada Inc.Liquidity ManagementNo excess reservesAssets LiabilitiesReserves$10 millionDeposits$100 millionLoans$90 millionB
6、ank Capital$10 millionSecurities$10 millionDeposit outflow of$10 millionAssets LiabilitiesReserves$0 millionDeposits$90 millionLoans$90 millionBank Capital$10 millionSecurities$10 million6 2005 Pearson Education Canada Inc.Liquidity Management1.Borrow from other banks or corporationsAssets Liabiliti
7、esReserves$9 millionDeposits$90 millionLoans$90 millionBorrowings$9 millionSecurities$10 millionBank Capital$10 million2.Sell SecuritiesAssets LiabilitiesReserves$9 millionDeposits$90 millionLoans$90 millionBank Capital$10 millionSecurities$1 million7 2005 Pearson Education Canada Inc.Liquidity Mana
8、gement3.Borrow from Bank of CanadaAssets LiabilitiesSecurities$10 millionBank Capital$10 millionReserves$9 millionDeposits$90 millionLoans$90 millionAdvances$9 million4.Call in or sell off loansAssets LiabilitiesReserves$9 millionDeposits$90 millionLoans$81 millionBank Capital$10 millionSecurities$1
9、0 millionConclusion:excess reserves are insurance against above 4 costs from deposit outflows8 2005 Pearson Education Canada Inc.Asset and Liability ManagementAsset Management1.Get borrowers with low default risk,paying high interest rates2.Buy securities with high return,low risk3.Diversify4.Manage
10、 liquidityLiability Management1.Important since 1960s2.Banks no longer primarily depend on deposits3.When see loan opportunities,borrow or issue CDs to acquire funds9 2005 Pearson Education Canada Inc.Capital Adequacy Management1.Bank capital is a cushion that helps prevent bank failure2.Higher is b
11、ank capital,lower is return on equityROA=Net Profits/AssetsROE=Net Profits/Equity CapitalEM=Assets/Equity CapitalROE=ROA EMCapital,EM,ROE 3.Tradeoff between safety(high capital)and ROE4.Banks also hold capital to meet capital requirements5.Managing Capital:A.Sell or retire stockB.Change dividends to
12、 change retained earningsC.Change asset growth10 2005 Pearson Education Canada Inc.Managing Credit RiskSolving Asymmetric Information Problems1.Screening2.Monitoring and Enforcement of Restrictive Covenants3.Specialize in Lending4.Establish Long-Term Customer Relationships5.Loan Commitment Arrangeme
13、nts6.Collateral and Compensating Balances7.Credit Rationing11 2005 Pearson Education Canada Inc.Managing Interest Rate RiskFirst BankAssets LiabilitiesRate-sensitive assets$20 mRate-sensitive liabilities$50 mVariable-rate loans Variable-rate CDsShort-term securities Overnight fundsFixed-rate assets$
14、80 mFixed-rate liabilities$50 mReservesChequable depositsLong-term bondsSavings depositsLong-term securitiesLong-term CDsEquity capital12 2005 Pearson Education Canada Inc.Managing Interest-Rate RiskGap AnalysisGAP=rate-sensitive assets rate-sensitive liabilities=$20$50=$30 millionWhen i 5%:1.Income
15、 on assets=+$1 million(=5%$20m)2.Costs of liabilities=+$2.5 million(=5%$50m)3.Profits=$1m$2.5m=$1.5m=5%($20m$50m)=5%(GAP)Profits=i GAP13 2005 Pearson Education Canada Inc.Duration AnalysisDuration Analysis%value (%pointi)(DUR)Example:i 5%,duration of bank assets=3 years,duration of liabilities=2 yea
16、rs;%assets=5%3=15%liabilities=5%2=10%If total assets=$100 million and total liabilities=$90 million,then assets$15 million,liabilities$9 million,and banks net worth by$6 millionStrategies to Manage Interest-rate Risk1.Rearrange balance-sheet2.Interest-rate swap3.Hedge with financial futures14 2005 P
17、earson Education Canada Inc.Off-Balance-Sheet Activities1.Loan sales2.Fee income fromA.Foreign exchange trades for customersB.Servicing mortgage-backed securitiesC.Guarantees of debtD.Backup lines of credit3.Trading ActivitiesA.Financial futuresB.Financial optionsC.Foreign exchangeD.Swaps15 2005 Pea
18、rson Education Canada Inc.Risk ManagementPrincipal-Agent ProblemTraders have incentives to take big risksRisk Management Controls1.Separation of front and back rooms2.Value-at-risk modeling3.Stress testingRegulators encouraging banks to pay more attention to risk management16 2005 Pearson Education
19、Canada Inc.Financial InnovationInnovation is result of search for profitsResponse to Changes in DemandMajor change is huge increase in interest-rate risk starting in 1960sExample:Adjustable-rate mortgagesResponse to Changes in SupplyMajor change is improvement in computer technology1.Increases abili
20、ty to collect information2.Lowers transactions costsExamples:1.Bank credit cards2.Electronic banking facilities17 2005 Pearson Education Canada Inc.Avoidance of Existing RegulationsRegulations Behind Financial Innovation1.Reserve requirementsTax on deposits=i rD2.Deposit-rate ceilingsAs i,loophole mine to escape reserve requirement tax and deposit-rate ceilingsExamples:1.Eurodollars2.Bank Commercial Paper3.Sweep Accounts and Overnight RPs4.Money Market Mutual Funds18 2005 Pearson Education Canada Inc.