Introduction to Banking. Introduction. A bank is a financial institution whose primary activity is to act as a payment agent for customers and to borrow and lend money.
1. The General Banking Law (RA No. 8791) – an act providing for the regulation of the organization/operations of banks, quasi-banks, trust entities and for other purposes; est. Feb. 23, 1995.
2. The Bangko Sentral ng Pilipinas (BSP) – was rechartered on July 3, 1993, pursuant to the provisions of the 1987 Philippine Constitution and the New Central Bank Act of 1993. The Central Bank of the Phils. was established on January 3, 1949, as the country’s central monetary authority.
3. Bank Regulations – are a form of government regulation which subject banks to certain requirements, restrictions, and guidelines.
4. Bank secrecy – a legal principle under which banks are allowed to protect personal information of their customers.
5. Capital requirement – is a bank regulation about how banks must handle their capital. In 1988, the Basel Accord provided a capital measurement for banks, it was eventually enhanced by Basel I & II.
6. Deposit account – a savings or current account in a bank that allows for deposit and withdrawal of funds by account holders.
7. Loan – is a type of debt. A loan entails the distirubution of financial assets over time between the lender and borrower.
8. Money laundering – the practice of engaging in financial transactions to conceal the source and destination of dirty money.
9. Universal bank – a bank that participates in all banking activities. A bank that is both commercial and investment bank.
– the well-spring of the monetary bloodstream (i.e., life blood of business and industry).
– an important component of the economic system of a country.
– responsible for the rapid development of a country’s economy (by mobilizing savings into investments).
Answer: Because of the people's trust and confidence (that banks can grow and protect its money).
We give a bank our money to keep it safe for us, and then the bank turns around and gives it to someone else in order to make money for itself.
Banks can legally extend considerably more credit than they have cash.
Still, most of us have total trust in the bank's ability to protect our money and give it to us when we ask for it.
Written orders for the withdrawal of separate lots of grains by owners soon became a more general method of payment of debts to other persons.
How the banking system originated from the goldsmiths?
How banknotes originated from the goldsmiths?
How fractional banking originated from the goldsmiths?
= facilitates a form of exchange even w/o handling of money to make the exchange of goods take place smoothly.
– derives profit from (a) interest income, (b) fees, and (c) charges.
“Banks” - shall refer to entities engaged in the lending of funds obtained in the form of deposits. - The General Banking Law of 2000 (RA No. 8791).
Explanation: When you deposit your money in the bank, your money goes into a big pool of money and your account is credited with the amount of your deposit. When you write checks or make withdrawals, that amount is deducted from your account balance. Interest you earn on your balance is also added to your account.
Note: An act of government legislation was not necessary to create a bank.
How to loan money in such a way as:
8. Building and Loan Association
9. Foreign bank
10. Private Development bank
11. Credit Union
12. Specialized Government bank
13. Islamic bank
Thrift banks are composed of (a) Savings and Mortgage Banks (b) Stock Savings and Loan Associations (c) Private Development Banks (d) Cooperative Banks, and (e) Credit Unions.
Note: A Savings and Loan Association – maybe owned by both shareholders and depositors (if they do, the word “mutual” is added).
Note: Cooperative Banks and Savings and Loan Associations were established to make it possible for factory workers and other lower-income workers to buy homes.
Trust – the ability of banks to act as a trustee (i.e., someone who administers financial assets on behalf of another).
A trustee – manages investments, keeps records, manages assets, prepares court accounting, pays bills and medical expenses, charitable gifts, inheritances, and/or distributes income or principal.
Rural Banks vs. Cooperative Banks
While rural banks are privately owned and managed, coop banks are organized/owned by cooperatives or federation of cooperatives.
Foreign banks are required to secure license from a securities and exchange commission and central bank before transacting business in the country.
In some cases, a bank organized domestically, may be treated as a foreign, if a majority of its capital stock is owned by foreigners.
Every international bank has its own policies outlining with whom they do business.
a. Minimum capital
b. Minimum capital ratio
c. “Fit and Proper” rule – for bank owners, directors, officers, and employees
d. Approval of the bank's business plan as being sufficiently prudent and plausible
Pooling of savings – the deposit function
Extension of credit – the loans and discount function
Facilities for financing foreign trade
Safekeeping of valuables
Note: A credit card is not only a useful tool for credit but also as a means for payment since it allows the holder to borrow money and buy goods up to a certain limit w/o paying for them immediately.
– business expansion
– purchase of real estate
– purchase of consumer goods/services
– acceptability of the buyer’s currency
– assurance of payment and shipment of goods
– language barriers
Note: An LC – is a written statement of the bank addressed to the seller guaranteeing that the bank will accept and pay a draft, up to a specified sum, if presented in accordance with the terms of the LC. If the seller shows proof (to the correspondent bank of the buyer) that the goods had already been shipped, he/she will receive payments.
Note: A Clearing House– is an association of banks established to facilitate the clearing of checks and other items (i.e., drafts, notes, etc.) among the members.
Importance of a Clearing House
Without a clearing house, it would be necessary for each bank to go to so many banks daily to cash or collect checks deposited with them by clients.
Types of Fx Rate:
1. Free rate 5. Sight rate
2. Official rate 6. Time rate
3. Spot rate 7. Market rate
4. Forward rate 8. OTC rate
Note: Many bank customers make use of this bank function.
- Custodianship and safekeeping
- Administratorship/ executorship
- Life insurance trust
- Escrow receivership
- Investment management agreements
- Common trust funds
- Mortgage trust indenture
- Management of pension funds
D. Other Services
- Custody of Securities
- Investment in securities/CPs
- Savings account
- Checking account
- Time deposit
- Special savings account
- Foreign currency deposit
- ATM card
- Agricultural loans
- Commercial loans
- Industrial loans
- Salary loans
- Housing loans
- Special financing loans
- Loan syndication and co- financing
A bank is in the business of making money
out of other people's money.
“Powers of a Commercial Bank – A commercial bank shall have x x x all such powers as may be necessary to carry on the business of commercial banking, such as x x x accepting or creating demand deposits; receiving other types of deposits and deposit subsitutes x x x.” Sec. 29, RA No. 8791 - General Banking Law.
A deposit is a contract between savers (creditors) and the bank (debtor), thus giving rise to a debtor-creditor relationship.
Note: Bank deposits constitute one of the most influential factors in the whole financial system. They are not only the largest element of money stock, but at the same time form an important source of investment funds.
Deposits are “balances due to customers”.
Note: Bank deposits do not signify something that is actually or physically present (but may refer only to an entry in the books of banks recording its obligation to customers).
Cash (or cash items)
Checks issued by the bank or its branches (outright credit)
Checks issued by other banks, local or regional (“clearing items”).
Checks issued by other banks but cannot be credited right away (“items for collection”).
Proceeds of loans and discounts
Note: Negotiable Certificate of Deposits – have fixed maturities and interest rates, but they are payable to “bearer” (holders can exchange them for money any time) and do not even require endorsements.
Note: Deposits constitute the bulk of the liabilities of a bank.
Depositors, if they heard of the slightest hint of trouble, “ran” to the bank to withdraw all of their money. Rumors make people uneasy about the security of their money in the bank.
“Bank runs” have often than not, lead to failures of many banks and huge losses of savings for many people.
Other banking insurance – were especially designed to cover deposits in cases of burglaries, robberies, vandalism, etc.
The required reserve do not exist to protect against “runs”. Required reserves are to give the monetary authority control over the amount of lending and deposits that banks can create.
1. Primary reserve – cash, deposits with other banks/central bank, readily marketable securities
2. Secondary reserve – securities for investment purposes.
Ex. If the required reserve of Bank X is P5 million but its actual reserve is P8 million the excess reserve is P3 million (P8,000,000 – P5,000,000).
Note: In case of unavoidable loss in one, the profits in others may offset the losses.
The major portion of a bank’s income is generated through lending.
In the early days, bank loans were only short-term used for productive purposes (ex. carrying a crop through harvest or carrying an inventory) and considered as self-liquidating. As soon as the crop, for example, was sold, the loan could be repaid.
See to it that funds are protected from loss, by being cautious in their loans and investments, to such an extent as to assure profits.
See to it that depositors’ claims for withdrawals are met upon demand, for ready repayment assures depositors of the use of their money in transactions worth many times the values of their deposits.
See to it that bank funds are put to such productive uses as to yield satisfactory dividends to shareholders, and to increase the bank surplus account as to cushion the bank against loss during lean years.Bank’s Responsibility to Depositors and Stockholders
Banks are susceptible to different types of risks: cautious in their loans and investments, to such an extent as to assure profits.
Liquidity risk – withdrawals beyond available funds
Credit risk – those who owe money to the bank will not repay.
Operational risk – improper operation of processing or management system resulting to loss, ex. Inexperienced personnel, unauthorized trading, easily accessed computer system, etc.
Legal risk – arises from the possibility that an entity may not be able to enforce a contract (an illegality of the contract or the other party entered into the contract w/o proper authority or ultra vires).
Interest rate risk – bank will be unprofitable in the rise of interest rate.Bank Crisis
Severe business depressions cautious in their loans and investments, to such an extent as to assure profits.
Large loans to officers and directors of the bank.
Large loans to business concerns (in which the bank’s officers/directors are financially interested).
Unexpected depreciation or decrease in the value of the securities held by the bank.
Heavy withdrawals by depositors (bank run) as a result of loss of confidence in the bank or in its management.General Causes of Bank Failures