Topic E 1 - Banking and credit

Definitions

What is financial intermediation?

The process where financial institutions channel funds from savers to borrowers.

What is asymmetric info?

When one party has more info than another in a financial transaction. Usually borrowers know more than lenders.

What is adverse selection?

The problem that risky borrowers are more likely to seek loans. occurs before the transaction.

What is moral hazard?

The risk that borrowers take greater risks after receiving funds. occurs after the transaction.

What is screening?

The collection of info to identify good borrowers. Used to reduce adverse selection.

What is monitoring?

Checking borrower behaviour after lending. used to reduce moral hazard.

What is collateral?

Assets pledged against a loan. Can be seized if borrower defaults

What is credit rationing?

When banks limit loans even if borrowers are willing to pay higher rates.

What is a bank balance sheets?

A statement of bank assets, liabilities, and capital. Assets = liabs + capital

What are bank assets?

Uses of funds. e.g. reserves, loans, securities

What are bank liabs?

Sources of funds. deposits borrowings

What is bank capital?

The difference between assets and liabs, act as a cushion against losses.

What are reserves?

Funds banks hold to meet withdrawals and reserve requirements.

What are excess reserves?

Reserves above the required minimum. Liquidity buffer

What is liquidity management ?

Managing assets to meet withdrawals

What is asset managment?

Choosing assets to maximise return while managing risk and liquidity.

What is liability management?

Actively managing funding sources.

What is capital adequacy?

Maintaining enough capital to absorb losses.

What is securitisation?

Turning illiquid loans into tradeable securities

What is shadow banking?

Credit intermediation outside traditional banks.

What is interest rate - risk?

Risk from changing interest rates affecting profits.

What is bank insolvency?

When liabilities exceed assets.

What is bank consolidation?

Mergers reducing the number of banks.