08/08/2020

Chapter 1:
An Overview of the Changing
Financial-Services Sector

Course Code: B01023

Chapter 1: An overview of Banks

Key topics

• Powerful forces reshaping the industry

• What is a bank?
• The financial system and competing financial-
service institutions
• Old and new services offered to the public
• Key trends affecting all financial-service firms

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Scheme

 History of bank
 What is bank?
 Role of bank / why does bank exist?
 Banks’ services (in the past and recently)
 Types of banks
 Banks’ competitors
 Key trends affecting all financial-service
firms

Chapter 1: An overview of Banks

1.1 Bank history

In the ancient world – religious temples
• Demand of finding a safe place for gold (deposit,
loans, payment)
• In the 13th, 14th and 15th centuries – the Italian
merchants - Benches (banco)
• Bills of exchange, letters of credit, book entry for
money and double entry bookkeeping.
• Investment banking (financing trade, bills of exchange
and raising money for governments by selling bonds)
• In the 18th to early 19th, industrialization and
urbanization in Europe, different types of banking:
"merchant” and “commercial”.

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Bank history: Arise from foreign trade

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1.1 Bank history

Chapter 1: An overview of Banks

Questions

• What is the original name of bank in the old time?

1 • Example of typical banking service in this video

• When was the 1st banking system established, and in

which country?
2 • What is the name of the oldest bank in Italy?

• Who were the main customers of the bank in the old

3 time?

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1.2 What is a Bank?

1.2.1. The Economic functions it serves

1.2.2. The services it offers its customers
1.2.3. The legal basis for its existence

Chapter 1: An overview of Banks

The economic functions it serves

• They are involved in transferring funds

from savers and borrowers (financial
intermediation) and in paying for goods
and services.

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The services of banks

• Banks no longer limit their service

offerings to traditional services but have
increasingly become general financial
service providers.
• Other financial institutions are trying to be
as similar to banks as possible in the
services they offer.

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2.3. Legal definition

• A bank is any business offering deposits

subject to withdrawal on demand and
making loans of a commercial or business
nature.
• A bank as any institution that could qualify
for deposit insurance administered by the
Federal Deposit Insurance Corporation
(FDIC)

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1.2.3. Legal definition

Law on Credit Institutions - Vietnam
Article 4. Interpretation of terms
• In this Law. the terms below are construed as follows:
• 1. Credit institution means an enterprise conducting one.
some or all banking operations. Credit institutions include
banks, non-bank credit institutions, microfinance institutions
and people's credit funds.
• 2. Bank means a type of credit institution which may conduct
all banking operations under this Law. Based on their
characteristics and operation objectives, banks include
commercial banks, policy banks and cooperative banks.
• 3. Commercial bank means a type of bank which may conduct
all banking operations and other business activities under this
Law for profit.
[Link]
[Link]?itemid=10477 (Law on Credit Institutions)

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Roles of banks

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The roles of banks

• Is financial intermediaries: interacts with 2

types of individuals and institutions:

Deficit- Surplus-
spending spending

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Questions

Who can be deficit-spending?

*
Who can be surplus-spending?
*
Between borrower and depositor, which one
has larger size? Holding for longer time?
And riskier?

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Lenders’ requirement

• Minimization of risk
• Minimization of cost
• Liquidity

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Borrowers’ requirement

• Funds at a particular specified date

• For a specific period of time (prefer long-
term)
• At the lowest possible cost

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And
Why does banks exist?

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The roles of banks

Bank exists to bridge the gap between the

depositors and borrowers by performing
transformation function:
 Size transformation: from small size deposit
and repackage in to larger size loans
 Maturity transformation: short-period of time
into medium and long-term loans
 Risk transformation: Minimize the risk of
default
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The benefits for stakeholders?

Borrowers: As a whole:
Lender:
Longer time More efficient
Liquidity, less risk,
period, larger utilization of funds,
marketable
amounts, lower higher level of
securities,
transaction costs, transaction, more
transaction cost,
lower interest rate, opportunity for
lending decision is
available when higher risk
simplified
require ventures,

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Why banks exist?

5 theories
• Delegated monitoring
• Information production
• Liquidity transformation
• Consumption smoothing
• The role of banks as a commitment
mechanism

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DELEGATED MONITORING

• Banks have expertise and economies of

scale in processing information on the
risks of borrowers.

• Depositors would find it costly to

undertake this activity so they delegate
responsibility to the banks.
• Theory by Diamond (1984)
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INFORMATION PRODUCTION

• Banks have economies of scale and other expertise in

processing information relating to deficit units – This
information may be obtained upon first contact with
borrowers but in reality is more likely to be learned
over time through repeated dealings with the
borrower.
• Depositors are willing to place funds with a bank
knowing that these will be directed to the appropriate
borrowers without the former having to incur
information costs.

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LIQUIDITY TRANSFORMATION

• Asset and Liabilities in banks’ balance sheet

• It should be clear that banks can hold liabilities and
assets of different liquidity features on both sides of their
balance sheet through diversification of their portfolios.
• In contrast, depositors hold relatively undiversified
portfolios (e.g., deposits typically have the same liquidity
and risk features).
• The better banks are at diversifying their balance sheets,
the less likely it is that they will default on meeting
deposit obligations

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CONSUMPTION SMOOTHING

• Financial intermediaries in general, and

banks in particular, provide these assets
via lending and this helps smooth
consumption patterns for individuals

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COMMITMENT MECHANISMS

• To control the risk-taking propensity of banks,

demand deposits have evolved because
changes in the supply and demand of these
instruments will be reflected in financing costs
and this disciplines or commits banks to behave
prudently (ensuring banks hold sufficient liquidity
and capital resources).

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Services Banks throughout

history
• Carrying out currency exchanges
• Discounting commercial notes and making
business loans
• Offering savings deposits.
• Safekeeping of valuables and certification of
value
• Supporting government activities with credit
• Offering checking accounts (demand
deposits)
• Offering trust services

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Services banks offered more

recently

• Granting consumer loans

• Financial advising
• Managing cash
• Offering equipment Leasing
• Making venture capital loans
• Selling insurance policies
• Selling retirement plans

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Dealing with securities

• One of the biggest of all banking service

targets recently, especially in US, is
dealing with securities (security brokerage
services) and marketing new securities to
raise funds for other institution.
Offering Mutual funds and Annuities
Offering merchant banking services
Offering risk management and hedging
services
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Key term 1

• Bank • Saving deposit

• Financial intermediation • Safekeeping
• Deficit spending • Checking account
• Surplus spending • Financial advising
• Liquidity / illiquidity
• Venture capital loan
• Size transformation
• Maturity transformation • Managing cash
• Risk transformation • Insurance policies
• Delegated monitoring • Currency exchange
• Information production • Discounting commercial
• Liquidity transformation notes
• Consumption smoothing
• FDIC
• Financial claim

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Key terms check

• Bank • Saving deposit

• Financial intermediation • Safekeeping
• Deficit spending • Checking account
• Surplus spending • Financial advising
• Liquidity / illiquidity • Venture capital loan
• Size transformation • Managing cash
• Maturity transformation • Insurance policies
• Risk transformation • Currency exchange
• Delegated monitoring • Discounting commercial
notes

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Types of Banks

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Types of Banks

• Commercial banks • Retail banks

• Money center banks • Limited-purpose banks
• Community banks • Bankers’ banks
• Savings banks • Minority banks
• Cooperative banks • National banks
• Mortgage banks • State banks
• Investment banks • Insured banks
• Merchant banks • Member banks
• Industrial banks • Affiliated banks
• International banks • Virtual banks
• Wholesale banks • Fringe banks
• Universal banks

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Commercial banks

• Are the major financial intermediary in any

economy.
• Main providers of credit to the household,
corporate sector and the payment
mechanism.
• Deal with both retail and corporate
customers, have well-diversified deposit and
lending books.
• The largest banks in most countries are
commercial banks.
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Top 10 biggest banks 2017, Vietnam

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Investment banks

• Mainly deal with companies and other large

institutions.
• Typically do not deal with retail customers.
• Help company and governments raise funds
in the capital market though issue stock or
debt.
• Main activities: M&A, Underwriting of
securities issues, trading and investing
securities, asset management.
• Have an important influence on the economic
system
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10 TOP INVESTMENT BANKS

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Lehman Brother – case study

• Was the 4th biggest

investment bank in
US.
• Bankruptcy with debt
>600billion USD,
26000 employee lost
their jobs.
• Due to securitization
bad mortgage ;
cheating on finance
statements
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Islamic banking

• Based on non-interest principles (riba)

• Have to develop products and services
that do no charge or pay interest -> offer
profit-sharing-related products whereby
depositors share in the risk of the banks’
lending.

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Banks’ competitors

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Banks and competitors

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Banks’ competitors

• Saving associations
• Credit unions
• Money market funds
• Mutual funds
• Hedge funds
• Security brokers and dealers
• Investment banks
• Finance companies
• Financial holding companies
• Life and property/casualty insurance companies

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Saving associations
(Quỹ tiết kiệm)
• Specialize in selling saving deposits and
granting home mortgage loans and other
forms of credit to individuals and families.
• Can be owned by ‘shareholder’ or
individual who deposit.
• Saving associations have to maintain the
certain percent of
• Atlas Savings and Loan Association
• American Federal Savings Bank
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Credit unions
(Liên hiệp tín dụng)

• Collect deposits from and make loans to

their members as nonprofit associations of
individuals sharing a common bond.
• American credit union of Milwaukee

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Money market funds

(Quỹ đầu tư chứng khoán của thị trường tiền tệ)

• Collect short-term, liquid funds from

individuals and institutions and invest
these monies in quality securities of short
duration.
• Scudder Tax-Free Money Fund

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Mutual funds and Hedge fund

(Quỹ tương hỗ và Quỹ phòng hộ)

• Mutual fund: Sell shares to the public

representing an interest in a professionally
managed pool of stocks, bonds, and other
securities. Fidelity / The vanguard group

• Hedge fund: Sell share mainly to upscale

investors in a broad group of different
kinds of assets. Magnum group

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Security brokers and dealers

• Buy and sell securities on behalf of their

customers and for their own accounts.
• Merrill Lynch / Charles Schwab

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Investment bank

• Provide professional advice to

corporations and governments raising
funds in the financial marketplace or
seeking.
• Morgan Stanley

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Finance companies

• Offer loans to commercial enterprises and

to individuals and families using funds
borrowed in the open market or from other
financial institutions.
• Vietnam: FE Credit

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Financial holding companies

(Tập đoàn tài chính)
• Is a financial institution engaged in nonbanking activities that
offers customers a wide range of financial services, including the
opportunity to purchase insurance products and invest in securities

• Were created by changes in legislation brought about by

the Gramm-Leach-Bliley Act of 1999 that first allowed bank holding
companies to affiliate with securities firms and insurance companies.

• Often include credit card companies, insurance and finance

companies, and security broker/dealer firms under one corporate
umbrella as highly diversified financial service providers.
• GE Capital / UBS Warburg AG

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Bao Viet holdings

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Life and property/casualty

insurance companies
• Protect against risks to persons or
property and manage the pension plans of
business and the retirement funds of
individuals.
• Prudential Insurance

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REVIEW

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Types of bank (1)

Commercial banks Ngân hàng thương mại
Affiliated banks Ngân hàng liên kết
Bankers’ banks Ngân hàng của ngân hàng
Community banks Ngân hàng cộng đồng
Cooperative banks Ngân hàng hợp tác xã
Fringe banks Ngân hàng (cầm đồ)
Industrial banks Ngân hàng công nghiệp
Insured banks Ngân hàng bảo hiểm
International banks Ngân hàng quốc tế
Investment banks Ngân hàng đầu tư
Limited-purpose banks Ngân hàng có mục đích giới hạn

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Types of banks (2)

Member banks Ngân hàng thành viên
Merchant banks Ngân hàng thương nhân
Minority banks Ngân hàng thiểu số / nhỏ
Money center banks Ngân hàng trung tâm tiền tệ / ngân hàng lớn
Mortgage banks Ngân hàng thế chấp
National banks Ngân hàng quốc gia
Retail banks Ngân hàng bán lẻ
Savings banks Ngân hàng tiết kiệm
State banks Ngân hàng bang
Universal banks Ngân hàng đa năng / toàn diện
Virtual banks Ngân hàng ảo/Số
Wholesale banks Ngân hàng bán buôn

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NOW ….

• Group of 5 students
• No document (Not at all)

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1 Sell deposits and make loans to businesses and individuals

COMMERCIAL BANK

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2 Are commercial banks present in more than one nation

INTERNATIONAL BANK

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Are large commercial banks based in leading financial

3
centers

MONEY CENTER BANK

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Are larger commercial banks serving corporations and

4
governments

WHOLESALE BANK

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Are smaller banks serving primarily households and

5
small businesses

RETAIL BANK

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Are smaller, locally focused commercial and savings

6
banks

COMMUNITY BANK

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7 Are wholly or partially owned by a holding company

AFFILIATED BANKS

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Attract savings deposits and make loans to individuals

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and families

SAVING BANK

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9 Belong to the Federal Reserve System

MEMBER BANK

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Focus primarily on customers belonging to minority

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groups

MINORITY BANKS

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Test yourself (2)

Function under a federal charter through the

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Comptroller of the Currency

Văn phòng kiểm

soát tiền tệ

NATIONAL BANK

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Function under charters issued by banking

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commissions in the various states

STATE BANKS

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Help farmers, ranchers, and consumers acquire

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goods and services

COOPERATIVE BANKS

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Maintain deposits backed by federal deposit insurance

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plans (e.g., the FDIC)

INSURED BANK

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Offer a narrow menu of services, such as credit card

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companies and subprime lenders

LIMITED PURPOSE BANKS

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Offer payday and title loans, cash checks, or operate

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as pawn shops and rent-to-own firms

FRINGE BANK

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17 Offer their services only over the Internet.

VIRTUAL BANK

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Offer virtually all financial services available in today’s

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marketplace.

UNIVERSAL BANK

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Provide mortgage loans on new homes but do not sell

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deposits

MORTGAGE BANK

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State-chartered loan companies owned by financial or

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nonfinancial corporations

INDUSTRIAL BANKS

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21 Supply both debt and equity capital to businesses

MERCHANT BANK

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Supply services (e.g., check clearing and security

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trading) to banks

BANKERS’ BANK

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Underwrite issues of new securities by their corporate

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customers

INVESTMENT BANK

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Key trends affecting all

financial-service firms

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Traditional banking vs Modern banking

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Service proliferation

• Rapidly expanding the menu of services

they offer to their customers.
• Pressure of increasing competition
• Service fee / fee income

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An example of Bank’s services

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Rising competition

• Number of competitors increase rapidly

(not only banks but also nonbank
institutions)
• Pros and cons

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Nonbank
• Are financial institutions that provide certain types of
banking services, but do not hold a banking license.

• Generally, are not allowed to take deposits from the

public, which keeps them outside the scope of
traditional oversight required under banking
regulations.

• NBFCs can offer banking services such as loans and

credit facilities, retirement planning, money
markets, underwriting, and merger activities.

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Government deregulation

• US deregulation began with the lifting of

government – imposed interest rate
ceilings on saving deposits.

• Donald Trump and bank deregulation

• FED and bank regulation on SMBank

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An increasingly interest-sensitive
mix of funds

• Government deregulation of the financial

sector has made the customers can earn
higher and more flexible rates of returns.
• Better-educated customers

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Technological change and

automation

• Automation and electronic networks

replace labor-based production systems.
• ATMs, POS, cell phones, debit card, credit
card, etc.
• Banks become a capital-intensive, less
labor, less face-to-face meetings

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Số lượng thẻ NH tại VN

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Consolidation and geographic

expansion
• Expand the customers base by reaching
into new and more distant market
-> Dramatic increase in branching activity in
order to provide multiple offices for
customers -> merger between some of the
largest bank and nonbank financial firm (J.P
Morgan Chase with Bank one)
-> Decline in employment in the financial-
services sector

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Convergence

• Refers to the movement of businesses

across industry lines so that a firm
formerly offering only one product line
ventures into other product lines to
broaden its sales base.

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Globalization

• BNP Paribus, Deutsche Bank, HSBC,

Citigroup, [Link] Chase -> have
become heavyweight competitors in the
global market.
• Deregulation, technology has helped all
these institutions.

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Homework 1

Draw a system structure of

a Vietnamese Commercial Bank

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