Part 1. Introduction to bank financial management in the financial – services industry.

This part of the book contains two chapters: Chapter 1 provides an introduction to banking in the financial-services industry (FSI). The major themes of the chapter are the functions of a financial system, the major players in the FSI, the fundamentals of financial intermediation, the risks of banking, and dimensions of bank competition and how regulation shapes them. The decline of banking, described as “The End of Banking as We Know It,” furnishes a starting point for distinguishing between the gathering of deposits to fund loans, the traditional business of banking, and modern banking. Which goes beyond the customary geographic and product markets of old-line commercial banking. Although traditional commercial banking has been in relative decline over the past quarter century, commercial banks still are the most important players in the U.S. financial system. Appendix A to chapter 1 provides a detailed list of sources of banking information and a few tips on researching on the Internet and writing reports as “executive summaries.” Appendix B contrasts and compares three alternative models of bank industry linkage: (1) the Japanese model, or keiretsu approach; (2) the German model, or universal-bank approach; and (3) the Anglo-American model, or capital-markets approach.

Chapter 2 presents three alternative ways of viewing a bank: (1) as a consolidated balance sheet or portfolio, (2) as an information processor with similarities to communications firms, and (3) as a regulated financial-services firm. The chapter mainly develops the portfolio concept by highlighting a bank’s souces and uses of funds and its risk management.

The functions of financial system

The primary function of a financial system is resource allocation. To accomplish this task, financial systems perform six basic, or core, functions:

1. They clear and settle payments (a payments system)

2. They aggregate (pool) and disaggregate wealth and flows of funds so that both large-scale and small-scale projects can be financed

3. They transfer economic resources over time, space, and industries

4. They accumulate, process, and disseminate information for decision-making purposes

5. They provide ways for managing uncertainty and controlling risk

6. They provide ways for dealing with incentive and asymmetric-information problems that arise in financial contracting

Although financial institutions come and go, these six core functions are relatively unchanging. Moreover, as financial innovation and competition among institutions generate greater efficiency in the performance of a financial system, institutional form tends to follow function.

To see the importance of commercial banks to a financial system, consider each of the six functions in the form of a question focusing on the importance of banks. For example, do banks clear and settle payments? Do they pool funds? For commercial banks, the answer to each of the six questions is : Yes! This is not to deny that other financial institutions perform some of these functions also. The important point, however, is that commercial banks perform all of these functions and that they have been adapting their institutional forms to follow the evolution of the individual functions.