Money And Banking Essay Research Paper 1

Money And Banking Essay, Research Paper

1. Give a synopsis of the development of the concept of banking.

There are a number of innovations in the emergence of the concept of banking. These include the depository operations of metal smiths, written orders to pay bank notes. The recognition that depositors typically withdraw only a small fraction of the valuables, which they have on deposit, the possibility of lending gold while it is on deposit, and ultimately the possibility of lending a multiple amount of the deposited gold as long as borrowers make payments to parties, all of whom redeposit the borrowed gold back in the same bank. There are many events of discovery and innovation, which occurred in the emergence of money and banking. The process started with the recognition by metal smiths that they could earn income for depository services. Depository receipts issued for gold and silver on deposit consisted of liabilities of the depository, which the holder could use to redeem the specified amounts of gold or silver. The depository receipts could be transferred to second, third, and subsequent parties who could redeem them for gold or silver; depository receipts thus were fledgling examples of paper currency.

Deposit customers discovered that they could write orders to pay to second parties who could redeem them for gold or silver at the depository and these written orders to pay were the precursors of modern checks. Gold and silver placed on deposit tended to remain on deposit for extended lengths of time typically, only a small proportion of the gold and silver on deposit would be withdrawn on any day. Depository operators discovered that the bulk of the gold and silver on deposit could safely be loaned at interest as long as an adequate proportion of all of that on deposit was reserved to meet withdrawal demands. The adequate proportion became regarded as reserve ratio and metal smiths, now functioning both to receive deposits and issue loans, had become bankers. Gold and silver bars and coins are fungible.

Many loan customers came to prefer to receive the proceeds of their loans in the form of depository receipts for the loaned amount rather than gold or silver. Loan customers eventually became willing to receive loan proceeds in the form of pure promises to pay, which could be redeemed in gold or silver; these promises to pay in conventional denominations became bank notes which were dissociated with any particular deposits of gold or silver. Bank notes could be issued in total amount exceeding the actual quantity of gold and silver on deposit and experience indicated that the amount could safely become a multiple of the gold and silver on deposit. The safe multiple could be estimated as the reciprocal of the proportion of the total gold and silver deposit which could be expected to be withdrawn on any day. This proportion of the gold and silver deposit served as a reserve backing the note issue. Eventually loan customers became willing to accept loan proceeds in the form of additions to their checkable deposit balances and bankers no longer needed to issue loan proceeds in the form of bank notes. Monetary authorities eventually removed the privilege of bank note issuance from banks and reserved this process for their exclusive monopoly. Inter-bank deposits at other banks or at a central bank could serve as the reserves backing checkable deposit liabilities then gold and silver reserves became unnecessary. Gold and silver, no longer circulating as a medium of exchange and unnecessary to serve as reserves backing issues of either bank notes or checkable deposits, became irrelevant to money and banking.

2. Discuss they types of instruments which are operative in such environment, in regards to depository and non-depository financial institutions.

There are numerous financial instruments available to investors and financial managers. Each year new instruments arrive on the market and some leave. Many of the large investment houses have researchers developing new types of instruments. The major purpose of financial markets is to transfer funds from lenders to borrowers. Financial market participants commonly distinguish between the “capital market” and the “money market,” with the latter term generally referring to borrowing and lending for periods of a year or less. The capital market is the long-term sector of the financial system and serves as a source of funds for terms longer than three years. Both fixed and variable interest securities are traded

Money Market Instruments are short-term cash substitutes. They usually have short maturities (one year or less), little or no default risk, and are highly liquid. The second category is Capital Market Instruments. These instruments are characterized by longer term maturities (greater than a year), their default risk is sometimes higher and they are generally less liquid. Treasury Bills have maturities of up to one year. They are purchased at a discount from face value. Treasury bills are usually traded in $10,000 denominations. Municipal notes are debt securities issued by state and local governments. The notes are interest bearing with maturities that range from a month to more than a year. The interest from these notes is exempt from federal taxation and usually exempt from state income tax. Certificates of deposit are large deposits ($100,000 or more) placed in commercia