TÀI CHÍNH TIỀN TỆ Lecture 1 chapter 2 an overview of financial system

Today’s Lecture• Overview • Functions of financial markets • Flow of fund through financial system • Structure of financial markets • Financial market instruments • Internationalizatio

UNIVERSITY OF FINANCE-MARKETING

The Economics of MBFM

Lecture-1

Chapter 2: An overview of financial system

Lecturer: Sumit, Ph.D.(in progress), MPA, MFC, NCFM, PGDPM

Today’s Lecture

• Overview

• Functions of financial markets

• Flow of fund through financial system

• Structure of financial markets

• Financial market instruments

• Internationalization of financial markets

• function of financial intermediaries

• Types of financial intermediaries

• Regulations of financial system

• Financial market(bond and stock) and financial intermediaries have the basic function of getting people together to transfer fund one

Function of Financial Markets

• Perform the essential function of channeling funds from economic players that have saved surplus funds

to those that have a shortage of funds

• Direct finance: borrowers borrow funds directly from lenders in financial markets by selling them

securities(financial instruments).

– Example: borrow the funds from savers by selling them a

bond, a debt security, that promises to make payments periodically for a specified period of time OR stocks, a security that entitles the owner to a share of the company’s profit and losses

• Why is this channeling of fund from savers to

spenders so important to the economy?

– People who save are frequently not the same people who have profitable investment opportunities

Function of Financial Markets (cont’d)

transfer fund from a person who who has not investment opportunities to one who has them.

producing an efficient allocation of capital, which increases production

consumers by allowing them to time purchases better

Figure 1 Flows of Funds Through the

Financial System

Borrow by Selling securities

Lender to saver as loan

Structure of Financial Markets

in primary markets

– Brokers and dealers work in secondary

markets

Contractual agreement by the borrower to pay the holder of the instrument fixed dollar amount at regular intervals until a specified date, when final payment made

Own portion of firm and right to vote to elect its directors

Structure of Financial Markets (cont’d)

• Secondary market can be organized in 2 ways.

– Exchanges : NYSE, Chicago Board of Trade

– OTC Markets : Foreign exchange, Federal funds

• Another way to distinguishing between markets is on the basis

of the maturity of securities traded in each market

– Money and Capital Markets

• Money markets deal in short-term debt instruments Corporations and banks actively use the money market to each interest on surplus funds.

• Capital markets deal in longer-term debt and

equity instruments Stocks and bonds are often held by financial intermediaries such as insurance companies and pension fund.

Financial Markets instruments

• Securitas traded in financial markets called

Lest price fluctuations so least risky

US securities Issued for 1,3,6 month maturities Pay set amount at maturity and have

no interest So initially selling at discount

Sold by bank to depositors that pay annual interest of giving and amount and at maturity pays back the

original purchase price

One bank Borrowing from another bank

Financial Markets instruments

– Capital market instruments

• State and local government bonds

• Consumer and bank commercial loans

Too much price fluctuation so More risk securities

Issues by corporation with strong credit ratings This bond sends holder interest twice in a year and pays off the face value at maturity

Issued by various Govt agencies,

Issued by state or local government to finance expenditure on schools, roads and other large programs

Table 1 Principal Money Market Instruments

Table 2 Principal Capital Market Instruments

Internationalization of Financial Markets

• Foreign corporations and banks raise funds from US and foreigners have become important investors in the US A look at international bond market and world stock markets will give us a picture of how their globalization of financial markets is taking place

– Foreign Bonds: sold in a foreign country and denominated in that

country’s currency

– Eurobond: bond denominated in a currency other than that of

the country in which it is sold Bond dominated in USD sold in

– World Stock Markets

• Also help finance the federal government

Function of Financial Intermediaries: Indirect

Finance

• Fund can move from lenders to borrowers by a second route, called indirect finance because it involves a financial intermediary that stands between the lender-savers and the borrower-spenders and helps transfer funds form one to the other

– Lower transaction costs (time and money spent in carrying out financial transactions)

• Economies of scale(bank hire one lawyer to make loan at fixed payment)

• Liquidity services(online service to pay bills)

– Reduce the exposure of investors to risk

• Risk Sharing at low transaction cost (Asset Transformation): create and sell assets at risk characteristics and from sales money buy another another assets and so on, so risk sharing at low cost

• Diversification: pooling a collection of assets into a new asset and then selling it to individuals

Financial intermediaries can reduce that

Function of Financial Intermediaries:

Indirect Finance (cont’d)

the transaction )

• Adverse Selection: try to avoid selecting the risky

borrower.

• Gather information about potential borrower.

• Not lend to either customer

not engage in activities that will prevent him/her to repay the loan.

• Sign a contract with restrictive covenants

• Economic of scope: e.g before loan to coy evaluate

credit risk of coy then loan coz later it will be easy for coy to sell bond to public

Types of Financial Intermediaries

• They fall into 3 categories:

– Depository institutions( banks )

• Commercials banks(fixed deposit and no checks writing)

• Savings and loan associations and mutual saving banks(allow time and checks writing)

• Credit unions – Contractual savings institutions( insurance coy and pension funds )

• Life insurance companies

• Fire and casualty insurance companies(more liquid than life)

• Pension funds and government retirement funds – Investment intermediaries( finance companies and MF ).

• Finance companies(selling CP)

• Mutual funds(get fund by selling stocks and diversified portfolio of stocks )

• Investment banks

Table 3 Primary Assets and Liabilities of Financial Intermediaries

Table 4: Principal Financial Intermediaries and Value of Their Assets

Regulation of the Financial System

Regulation of the Financial System (cont’d)

• To ensure the soundness of financial intermediaries:

hard rules).

(control holding of risky assets)

• Branching(not many branches)

• Restrictions on Interest Rates

Table 5 Principal Regulatory Agencies

of the U.S Financial System

If you have any question, please

feel free to ask