Chap. 3- Finance

What is financial intermediation?

The process by which savings are accumulated in depository institutions and then lent or invested.

What are the four categories of financial institutions?

Depository Institutions, Contractual Savings Organizations, Securities Firms, and Finance Firms.

What are depository institutions?

Institutions that accept deposits and lend pooled funds to businesses, governments, and individuals.

What are the four types of depository institutions?

Commercial Banks, Savings and Loan Associations, Savings Banks, and Credit Unions.

What is a commercial bank?

A depository institution that accepts deposits, issues check-writing accounts, and makes loans.

What is a thrift institution?

A noncommercial depository institution that accumulates savings and primarily makes consumer and mortgage loans.

What is a savings bank?

A thrift institution that accepts savings and primarily makes mortgage loans to individuals.

What is a savings and loan association (S&L)?

A thrift institution that accepts savings and makes mortgage loans and business loans.

What is a credit union?

A cooperative nonprofit organization that provides member depositors with consumer credit.

What are contractual savings organizations?

Organizations that collect premiums or contributions and provide insurance and retirement benefits.

What are the two types of contractual savings organizations?

Insurance Companies and Pension Funds.

What is an insurance company?

An organization that provides protection against life, property, liability, and health risks.

What is a pension fund?

An organization that receives contributions and invests them for employees' retirement.

What are securities firms?

Firms that invest savings and facilitate the sale and transfer of securities.

What are the three types of securities firms?

Investment Companies (Mutual Funds), Investment Banking Firms, and Brokerage Firms.

What is an investment company?

A company that sells shares and invests pooled funds in securities.

What is a mutual fund?

An open-end investment company that issues unlimited shares and invests pooled funds in securities.

What is an investment banking firm?

A firm that helps businesses sell new securities to investors.

What is a brokerage firm?

A firm that helps investors buy and sell securities.

What are finance firms?

Firms that provide loans directly to consumers and businesses.

What are the two types of finance firms?

Finance Companies and Mortgage Banking Firms.

What is a finance company?

A company that provides direct loans and financing for durable goods and homes.

What is a mortgage banking firm?

A firm that originates mortgage loans by connecting borrowers and investors.

What is a commercial bank?

A bank that accepts deposits, makes loans, and issues check-writing accounts.

What is an investment bank?

A bank that helps businesses sell securities to raise capital.

What is a universal bank?

A bank that engages in both commercial banking and investment banking activities.

How does commercial banking intermediation work?

Savers deposit money in a bank, the bank lends the money to businesses, and receives loan notes in return.

How does investment banking intermediation work?

Investment banks help businesses sell securities to savers and investors.

What was the Glass-Steagall Act of 1933?

A law that separated commercial banking and investment banking activities.

What was the Gramm-Leach-Bliley Act of 1999?

A law that repealed the separation between commercial and investment banking.

What are three ways checks can be cleared?

Direct presentation, through a clearinghouse, or through a Federal Reserve Bank.

What are major banking laws?

National Banking Act (1864), Federal Reserve Act (1913), Glass-Steagall Act (1933), DIDMCA (1980), Garn-St. Germain Act (1982), Gramm-Leach-Bliley Act (1999), Dodd-Frank Act (2010).

What was the Savings and Loan Crisis?

A period from the mid-1980s to mid-1990s when over 2,000 S&Ls failed, closed, or merged.

Why did the Savings and Loan Crisis occur?

Mismanagement and fraudulent activities driven by greed.

Why are S&Ls vulnerable to interest rate risk?

They borrow short-term through deposits and lend long-term through mortgages.

What is the FDIC?

Federal Deposit Insurance Corporation; protects bank deposits.

What is the NCUSIF?

National Credit Union Share Insurance Fund; protects credit union deposits.

What was the FSLIC?

Federal Savings and Loan Insurance Corporation; protected S&L deposits before being replaced.

What is the current FDIC insurance limit?

$250,000 per depositor per insured bank.

What is the dual banking system?

A system where commercial banks can obtain either federal or state charters.

What is a federally chartered bank?

A bank chartered by the federal government that must belong to the Federal Reserve System and FDIC.

What is unit banking?

A banking system where a bank can have only one full-service office.

What is limited branch banking?

A system allowing branches within a defined distance from the main office.

What is statewide branch banking?

A system allowing banks to operate throughout a state.

What is a holding company?

A firm that owns and controls other firms.

What is a one-bank holding company (OBHC)?

A company that owns and controls one bank.

What is a multibank holding company (MBHC)?

A company that owns and controls two or more banks.

What are the four major bank asset categories?

Cash and balances due, securities, loans, and other assets.

Which asset category is typically the largest on a bank balance sheet?

Loans.

What are the major types of bank loans?

Real estate loans, loans to depository institutions, commercial and industrial loans, loans to individuals, and other loans.

What are the three major liability/capital categories on a bank balance sheet?

Deposits, other liabilities, and owners' capital.

What are transaction accounts?

Demand deposits and NOW accounts.

What are nontransaction accounts?

Time deposits and savings deposits.

What is bank liquidity?

The ability of a bank to meet withdrawals and pay liabilities when due.

What is bank solvency?

The ability of a bank to keep assets greater than liabilities.

What is asset management in banking?

Maintaining reserves to meet withdrawals and liabilities.

What is liability management in banking?

Adjusting interest rates on liabilities to maintain liquidity.

What is the equity capital ratio?

Equity Capital ÷ Total Assets.

What is the Tier 1 capital ratio?

(Common Equity + Trust-Preferred Securities − Intangible Assets) ÷ Risk-Adjusted Assets.

What is the Total Capital Ratio?

(Tier 1 Capital + Tier 2 Capital) ÷ Risk-Adjusted Assets.

What is Tier 2 capital?

Loan-loss reserves, subordinated debt, preferred stock, and certain unrealized gains.

What is international banking?

Banking operations conducted in more than one country.

What was the International Banking Act of 1978?

A law providing more consistent regulation of international banks.

What is universal banking?

A system where banks can engage in both commercial and investment banking.

Which countries are noted as universal banking countries in the chapter?

Germany and the United States.

What happened to mortgage-backed securities after the housing bubble burst?

Their value declined significantly.

Why did many financial institutions experience distress during the financial crisis?

They lacked sufficient equity capital to absorb losses from mortgage-related securities.

Which institutions helped weaker financial institutions during the 2008 crisis?

The Federal Reserve and the U.S. Treasury.

What is the primary source of funds for depository institutions?

Deposits from savers.

What is the primary role of investment banks?

Marketing and selling new securities for businesses.