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ECON 351 (21)
Chapter 10

Chapter 10_Economics of Banking.docx

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ECON 351
Frank Sorokach

Chapter 10: Economics of Banking  Balance Sheet: Asset = Liabilities + Shareholders’Equity - Asset – something of value that an individual or a firm owns - Liability – something that an individual or a firm owes - Shareholder’s Equity - difference between value of a firm’s asset and value of its liabilities  Bank Liabilities: 1. Checkable Deposits – accounts against which depositors can write checks - Demand Deposits – checkable deposits on which banks do not pay interest - NOW Accounts – checking accounts that pay interest 2. Non-Transaction Deposits – savers who are willing to sacrifice immediate access to their funds in exchange for higher interest payments - Savings Accounts, Money Market DepositAccounts, Time Deposits or Certificate of Deposit - Small-denomination Time Deposits - CDs of less than $100,000 - Large-denomination Time Deposits - CDs of $100,000 or more - CDs worth $100,000 or more are negotiable, which means that investors can buy and sell them in secondary markets prior to maturity. 3. Borrowings – Banks often make more loans than they can finance with funds they attract from depositors  BankAssets - Receive from depositors, borrow from other institutions, acquire initially from shareholders, retain as profits from operations 1. Reserves and Other CashAssets - Reserves – value cash plus bank deposits with Federal Reserve - Vault Cash – cash on hand in bank includes currency inATMs and deposits with other banks - Required Reserves – Fed requires banks to hold against demand deposit and NOW account balances, 10% must be maintained - Excess Reserves – any reserves bank hold above those necessary to meet reserve requirement, above 10% - Cash Items in Process of Collection – claims banks have on other banks for uncollected funds 2. Securities - Marketable Securities – liquid assets that banks trade in financial markets - Secondary reserves – Bank holdings of U.S. Treasury securities due to their liquidity 3. Loans – illiquid relative to marketable securities and have greater default risk and higher information costs. - Loans to Businesses – commercial and industrial or C&I loans - Consumer Loans – made to households to buy automobiles, furniture and other goods - Real Estate Loans – residential and commercial mortgages • Residential Mortgages – made to purchase homes • Commercial Mortgages – made to purchase stores, offices and factories Chapter 10: Economics of Banking  T-Account – an accounting used tool to show changes in balance sheet items - Spread – difference between the average interest rate banks received on their assets and average interest rate they pay on their liabilities  Banks Capital and Banks Profits 1. Return onAssets – ratio of the value of a bank’s after-tax profit to value of its assets - [ROA] –After-tax Profit / Bank Assets 2. Return on Equity – ratio of the value of a bank’s after-tax profit to valu
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