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Commercial Banking

Page history last edited by Brian D Butler 10 years, 11 months ago



Table of Contents:



Commercial Banking


Business Model



Banks are a very simple for-profit commercial enterprise. They take in money from consumers, and then loan out that same money to other businesses / consumers at a percentage interest rate. But banks are not allowed to invest (loan) out 100% of the money. By law, they are required to keep approximately 10% of the money as "reserves". 


Money is created in the banking system. $1000 deposit gets turned into $10,000 in Bank money. How? When one bank receives $1000, they will turn around and loan out the other $900...that money eventually ends up in another bank...who in turn saves 10%, and loans out 90%....and so on. This is how banks " make money" out of nothing. In the end, a $1000 deposit will get turned into $10,0000 in bank money (assuming a 10% mandated reserve ratio).


It raises funds by collecting deposits from businesses and consumers via checkable deposits, savings deposits, and time (or term) deposits. It makes loans to businesses and consumers. It also buys corporate bonds and government bonds. Its primary liabilities are deposits and primary assets are loans and bonds.




Manhattan Chinatown Citibank branch (New York City)

Fragility of Banking 


Fragile discussed in RGE Monitor:  In Who Has All the Answers? Mark Thoma presents a discussion about Hyman Minsky, who has posthumously received a lot of attention for his insight regarding the inherent instability of financial systems. Thoma acknowledges that while the economic models that we have are inadequate to provide all of the answers for financial crises, they are still useful and important to consult for guidance



Banks have long term assets (mortgages, loans), but short term liabilities (deposits can be removed at anytime). This is the basic frailty of the banking system.  The banks might make money over time, and might be stable in the long-run, but they are subject to critical weakness in the short term because depositors could demand their money back at anytime, but the banks have all of their assets (money) tied up in long-term loans (such as mortgages).  So, the money might not be available. 


Federal Insurance


As a result of this inherent weakness, banks are offered federal insurance for the deposits.  The government is forced to federally protect (guarantee) depositors that their money will be there if they want it.  Or else, people would not trust the banks, and would not deposit their money. 



In exchange for this federal guarantee (that they receive), the banks (give up) are subject to stiff regulation.  One of the main requirements for deposit-taking banks is that they have to maintain a certain level of money on reserve at the (Federal Reserve).  In the US, this reserve requirement is 10%.



Wherever you see regulation, you will see innovation (to get around the regulation).  Banks are some of the most creative organizations when it comes to developing products to get around regulation.  For example, there has been massive Innovation in the financial sector when it comes to the securitization of mortgages (which partly is to blame for the subprime lending crisis). 



Bank-dominated vs. Market-dominated financial system


By Mark Carney


Brief summary: "Our response to the financial crisis will be as important as the event itself. We can never eliminate financial crises, but we can reduce their likelihood and severity.


This crisis marks the reversal of a decades-long transition from a bank-dominated to a market-dominated financial system. The market-based model has the potential to price risk and to allocate capital more efficiently. In some cases, however, the development of markets ran well ahead of the supporting infrastructure. A system that appeared resilient (and enormously profitable) in times of low volatility has proven brittle in the face of shocks.


...there is a sudden re-emphasis on bank-based intermediation that has led to an urgent need for banks to raise very large amounts of capital. This threatens to intensify the global economic slowdown if not managed properly.


...The second strategy recognises that the transition towards a market-based financial system has increased the importance of core money markets. In economies with weak banks and large non-bank sectors, massive central bank liquidity is not yet cascading through the system. Non-bank participants – such as money market funds, pension funds and hedge funds – fear that liquidity may not be continuously available. Their fears will not fade without structural changes to markets."


Continue reading “Towards a more resilient financial system”



Innovative Business Models:



The financial services industry isn't exactly known for giving things away for free, but a California-based firm is breaking the mould and offering free stock trading for investors.  Zecco is an online financial portal and community through which investors can make 10 free stock trades every month when they maintain an asset balance of just USD 2,500. The cost otherwise is only USD 4.50 per trade, and there is no minimum balance required to open or maintain an account. Further enriching the experience for users, meanwhile, is ZeccoShare, a social network for investors that Zecco launched last fall. Members of ZeccoShare can create profiles, contribute to blogs and forums and join investing groups. They can also share their portfolios (minus the dollar amounts), their trades and their performance for discussion with other members. Portfolio data, holdings and trade information are aggregated across all ZeccoShare member profiles, allowing members to scan listings of most-held and most-traded stocks, create specific groups of like-minded investors (such as “socially responsible investing” or “women on investing”) and more.  Making Zecco's free love possible is the fact that the cost of executing a trade has become very small, it says; in addition, it does charge for options trading, and it earns revenue from such other means as premium tools and online ads. Since its launch in late 2006, Zecco has gained over 90,000 trading customers; notable backers include shareholders Morten Lund of LundKenner (an early investor in Skype) and Dutch telecom pioneer Marcel Boekhoorn.



General Info:

source: http://en.wikipedia.org/wiki/Bank


It raises funds by collecting deposits from businesses and consumers via checkable deposits, savings deposits, and time (or term) deposits. It makes loans to businesses and consumers. It also buys corporate bonds and government bonds. Its primary liabilities are deposits and primary assets are loans and bonds.




Large banks in the United States are some of the most profitable corporations, especially relative to the small market shares they have. This amount is even higher if one counts the credit divisions of companies like Ford, which are responsible for a large proportion of those companies' profits.


In the past 10 years in the United States, banks have taken many measures to ensure that they remain profitable while responding to ever-changing market conditions. First, this includes the Gramm-Leach-Bliley Act, which allows banks again to merge with investment and insurance houses. Merging banking, investment, and insurance functions allows traditional banks to respond to increasing consumer demands for "one-stop shopping" by enabling cross-selling of products (which, the banks hope, will also increase profitability). Second, they have moved toward risk-based pricing on loans, which means charging higher interest rates for those people who they deem more risky to default on loans. This dramatically helps to offset the losses from bad loans, lowers the price of loans to those who have better credit histories, and extends credit products to high risk customers who would have been denied credit under the previous system. Third, they have sought to increase the methods of payment processing available to the general public and business clients. These products include debit cards, pre-paid cards, smart-cards, and credit cards. These products make it easier for consumers to conveniently make transactions and smooth their consumption over time (in some countries with under-developed financial systems, it is still common to deal strictly in cash, including carrying suitcases filled with cash to purchase a home). However, with convenience there is also increased risk that consumers will mis-manage their financial resources and accumulate excessive debt. Banks make money from card products through interest payments and fees charged to consumers and companies that accept the cards.


The banks' main obstacles to increasing profits are existing regulatory burdens, new government regulation, and increasing competition from non-traditional financial institutions.


Bank size information


Top ten banking groups in the world ranked by tier 1 capital


Figures in U.S. dollars, and as at end-20052



1. HSBC — 79 billion

2. Citigroup — 75 billion

3. Bank of America — 73 billion

4. JP Morgan Chase — 72 billion

5. Mitsubishi UFJ Financial Group — 64 billion

6. Credit Agricole Group — 60 billion

7. Royal Bank of Scotland — 48 billion

8. Sumitomo Mitsui Financial Group — 40 billion

9. Mizuho Financial Group — 39 billion

10. Santander Central Hispano — 38 billion


Top ten banking groups in the world ranked by assets


At the end of 2006 HSBC had 1730 billion while Mitsubishi UFJ Finl. had 1700 and citigroup 1630 billion assets. Figures in U.S. dollars, and as at end-20043



1. UBS — 1,533 billion

2. Citigroup — 1,484 billion

3. Mizuho Financial Group — 1,296 billion

4. HSBC Holdings — 1,277 billion

5. Crédit Agricole — 1,243 billion

6. BNP Paribas — 1,234 billion

7. JPMorgan Chase & Co. — 1,157 billion

8. Deutsche Bank — 1,144 billion

9. Royal Bank of Scotland — 1,119 billion

10. Bank of America — 1,110 billion


Top ten bank holding companies in the world ranked by profit


Figures in U.S. dollars, and as 2005



1. Citigroup — 24 billion

2. Bank of America — 16 billion

3. HSBC — 12 billion

4. UBS AG — 10 billion

5. JP Morgan Chase — 8.25 billion

6. Royal Bank of Scotland — 8 billion

7. Wells Fargo — 7.7 billion

8. Wachovia — 5 billion

9. Morgan Stanley — 5 billion

10. Merrill Lynch — 4 billion


Top ten banks in the world ranked by market capitalisation


Figures in U.S. dollars, and as at 26 July 20064


The ICBC - Industrial and Commercial bank of China was floated in late October. It would appear on the updated version of this list.



1. Citigroup — 275 billion

2. ICBC — 250 billion

3. Bank of America — 230 billion

4. HSBC — 200 billion

5. JPMorgan Chase — 150 billion

6. Mitsubishi UFJ — 145 billion

7. Wells Fargo — 120 billion

8. UBS — 110 billion

9. Royal Bank of Scotland — 100 billion

10. China Construction Bank — 100 billion

11. Mizuho — 95 billion



Virtual Banking Banned in Second Life

Posted: 09 Jan 2008 12:44 AM CST

Linden Lab has announced that virtual banking within Second Life is to be banned effective January 22 after receiving multiple complaints by Second Life residents scammed by bank operators.


Banking and associated services have become popular in Second Life over the last two years, with many offering ponzi style interest schemes that usually sounded too good to be true. Ginko Financial was the best known failure amongst Second Life banks, owing 200 million Linden ($750,000) to depositors when it declared itself insolvent in August 2007.


In a post on the Second Life blog, Ken Linden said that as well as not being able to provide protection to Second Life users with these banks running, their legality under law is also questionable. The decision is unlikely to affect virtual stock exchanges but may affect groups such as Second Life credit card provider Metacard, who also previously offered bank services as well.


Second Life banks are experiencing a run on their funds as customers seek to get their money before the ban comes in place. Companies such as JT Financial have been inundated by customers wanting to know what is going on. Screen shot of the JT Financial crisis meeting below.


Banking joins bestiality and gambling on the banned in Second Life list.





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