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Chapter 13

EC223 Chapter Notes - Chapter 13: Retained Earnings, Asteroid Family

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Sharif Khan

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Chapter 13 – Banking and Management of Financial Institutions
Bank’s Balance Sheet
Total Assets = Total Liabilities + Capital
A bank acquires funds by issuing liabilities such as deposits, which are the sources
of funds the bank uses. Banks have three main sources of funds: deposits,
borrowings and equity.
Demand Deposits: Payable on demand. If a depositor shows up and does a
withdrawal, the bank must give them money immediately.
Notice Deposits: Same thing except they require a notice requirement before
withdrawal of funds.
Demand and Notice deposits are two types of chequable deposits. They are assets
for us because it’s a part of my wealth, but for the bank it is a liability because they
are obligated to pay whenever money is withdrawn.
Fixed-Term Deposits: Primary source of bank funds. Cannot write cheques
for them but interest rates are usually higher than chequable deposits. Two
types: saving account and time deposits
Borrowing: Banks can obtain funds by borrowing from the Bank of Canada or other
Advances: funds obtained by borrowing from the Bank of Canada.
Banks borrow funds overnight to have enough settlement balances (reserves) at
the Bank of Canada to facilitate the clearing of cheques.
Bank Capital: The bank’s net worth, which equals the difference between total
assets and liabilities. Funds are raised by selling stocks or from retained earnings.
Banks have bank capital because it’s a safety net for a drop in the value of its assets.
Without capital, it would force the bank into insolvency.
A bank uses the funds that it’s acquired by issuing liabilities to purchase income-
earning assets. The interest payments earned on these acquired assets are how
banks make their money
Reserves: All banks hold some of the funds they acquire as deposits in an account
(settlement balance) at the Bank of Canada. Reserves are these settlement
balances plus currency held by the banks (vault money).
Securities: Income earning assets that make up a large part of bank’s assets. They
are very liquid and easily traded.
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