1. Understanding Money and Financial Institutions
Chapter 20 1 1

2. Chapter 20 Learning Goals
What is money, what are its characteristics and functions, and what are the three parts of the U.S. money supply?
What are the basic functions of the Federal Reserve System, and what tools does it use to manage the money supply?
What are the key financial institutions, and what role do they play in the process of financial intermediation?

3. Chapter 20 Learning Goals (cont’d.)
How does the Federal Deposit Insurance Corporation protect depositors’ funds?
What role do U.S. banks play in the international marketplace?
What trends are reshaping the banking industry?

4. Learning Goal 1
What is money, what are its characteristics and functions, and what are the three parts of the U.S. money supply?
Money
Anything accepted as payment for goods and services
Characteristics
Scarce, durable, portable, and divisible
Functions
Medium of exchange
Standard and store of value
U.S. money supply
Currency (coins and paper money)
Demand deposits (checking accounts)
Time deposits (interest-bearing deposits that cannot be withdrawn on demand)

5. Money:
Anything that is acceptable as payment for goods and services

6. Characteristics of Money
Scarcity
Durability
US paper money does wear out; 95% of the new money printed in 1990 was to replace ‘unfit notes’ & 5% was for economic growth (Source: Federal Reserve Bank San Francisco,
Portability
Divisibility

7. Functions of Money
medium of exchange
standard of value
store of value

8. Learning Goal 2
What are the basic functions of the Federal Reserve System, and what tools does it use to manage the money supply?
Four major functions of the Federal Reserve System (the Fed)
Carrying out monetary policy
Setting rules on credit
Distributing currency
Making check clearing easier
Three money-managing tools of the Fed
Open market operations
Reserve requirements
Discount rate

9. The Federal Reserve System
Carrying out monetary policy
open market operations, reserve requirement, discount rate
Setting rules on credit
selective credit controls, consumer credit rules, margin requirements
Distributing currency
Making check clearing easier

10. Distributing Currency
$150 billion in cash typically exists at the Federal Reserve & at banks
Anticipating a high demand for cash prior to Y2K, the Federal Reserve printed an extra $70 billion
the extra money was distributed to banks
this was enough for every US citizen (including children) to have $255

11. Federal Monetary Tools
Money Interest Economic Action supply rates activity
buy bonds ­ ¯ ­ sell bonds ¯ ­ ¯
raise reserve ¯ ­ ¯ lower reserve ­ ¯ ­
raise discount rate ¯ ­ ¯ lower discount rate ­ ¯ ­

12. Financial Intermediation Process
Financial intermediaries: banks, life insurance companies, pension funds
Demanders of funds: businesses, governments
Suppliers of funds: households $ $

13. Learning Goal 3
What are the key financial institutions, and what role do they play in the process of financial intermediation?
Depository institutions
Commercial banks
Thrift institutions
Credit unions
Nondepository institutions
Insurance and finance companies
Pension funds
Brokerage firms
Financial institutions
Ease the transfer of funds between suppliers and demanders

14. The US Financial System
Depository financial institutions
commercial banks, thrift institutions, credit unions
Nondepository financial institutions
insurance companies, pension funds, brokerage firms, finance companies

15. Learning Goal 4
How does the Federal Deposit Insurance Corporation protect depositors’ funds?
Federal Deposit Insurance Corporation (FDIC)
Insures deposits in commercial banks through the Bank Insurance Fund
Deposits in thrift institutions through the Savings Association Insurance Fund
Sets banking policies and practices
Reviews banks annually to ensure that they operate fairly and profitably

16. Insuring Bank Deposits
Federal Deposit Insurance Corporation (FDIC)
protection for bank failure
insures deposits up to $100,000 per account
backed by the credit of the US government
all banks in the Federal Reserve must have insurance

17. Learning Goal 5
What role do U.S. banks play in the international marketplace?
U.S. banks
Provide loans and trade-related services to
Foreign governments
Foreign businesses
Offer specialized services
Cash management
Foreign currency exchange

18. International Banking
Some countries do not allow US banks to enter
Foreign banks have fewer regulations
International banking is high-risk
US banks provide loans to foreign governments and businesses

19. International Banking
Top 5 Global Banks:
1. Deutsche Bank (Germany)
2. Sanwa Bank (Japan)
3. Sumitomo (Japan)
4. Dai-Ichi Kangyo (Japan)
5. Fuji (Japan)
Source: Corporate Finance Network, corpfinet.com

20. Learning Goal 6 What trends are reshaping the banking industry?
Banks are delivering more online services
Bank mergers and acquisitions are:
Consolidating the banking industry
Helping banks to improve their operating efficiency
Reducing costs
Extending their geographic reach
Passage of bank reform legislation
Allows banks to market securities and insurance products
Helps banks compete with nondepository institutions

21. Trends in Banking Online banking Consolidation
one expert predicts that 12 finance companies will hold 85% of the world’s private-sector financial assets by 2020 (Source: Eugene Ludwig in The Arizona Republic, Jan. 3, 2000, p. D1)

22. Trends in Banking
Integration of banking, brokerage, & insurance services
Congress passed the Gramm-Leach-Bliley Act of 1999 allowing companies in these areas to offer each other’s services
The legislation is expected to lead to healthy competition & lower prices for consumers (Source: Georgia Bankers Association,
This will likely lead to cross-industry mergers (Source: The Arizona Republic, Jan. 3, 2000, p. D1)