Evolution of Banking and Bank as Financial Intermediaries

Objectives :Know about the history of money Understand Time Value of Money Describe the use of money from a multiplier perspective Describe how banks create money Study the evolution of banking and money

Evolution of Money : Evolution of Money Definition of money: Anything that is widely used for making payments and accounting A current medium of exchange in the form of coins and banknotes; coins and banknotes collectively. Functions of money: Unit of account Method of payment Medium of exchange Measure of value Store of value

Money must be: Generally acceptable Stable in value Durable Difficult to imitate Portable Divisible into small units

Time Value of Money : Time Value of Money The time value of money is the value of money figuring in a given amount of interest earned over a given amount of time. The time value of money is the central concept in finance theory. For example, Rupess 100 of today's money invested for one year and earning 5% interest will be worth Rs.105 after one year. Therefore, Rs100 paid now or Rs.105 paid exactly one year from now both have the same value to the recipient who assumes 5% interest; using time value of money terminology, Rs.100 invested for one year at 5% interest has a future value of Rs.105 All of the standard calculations for time value of money derive from the most basic algebraic expression for the present value of a future sum, "discounted" to the present by an amount equal to the time value of money. For example, a sum of FV to be received in one year is discounted (at the rate of interest r) to give a sum of PV at present: PV = FV − r·PV = FV/(1+r).

Multiplier effect with Money : Multiplier effect with Money In monetary economics, a money multiplier is one of various closely related ratios of commercial bank money to central bank money under a fractional-reserve banking system. Most often, it measures the maximum amount of commercial bank money that can be created by a given unit of central bank money. That is, in a fractional-reserve banking system, the total amount of loans that commercial banks are allowed to extend (the commercial bank money that they can legally create) is a multiple of reserves; this multiple is the reciprocal of the reserve ratio, and it is an economic multiplier. If banks lend out close to the maximum allowed by their reserves, then the inequality becomes an approximate equality, and commercial bank money is central bank money times the multiplier. If banks instead lend less than the maximum, accumulating excess reserves, then commercial bank money will be less than central bank money times the theoretical multiplier. Where The money multiplier, m , is the inverse of the reserve requirement, RR

Evolution of Banking : Evolution of Banking Indigenous bankers are found in various forms such as pawn brokers, nidhis, bishis, and chit funds In 1809, the first banking institution in India was the Bank of Bengal The Imperial Bank of India was renamed as State Bank of India in 1955


Bank as Financial Intermediaries

Objectives : Objectives In this session, you will be able to: Understand the need for financial intermediation Discuss about the various types of financial intermediaries in the Financial system Appreciate the parameters on which the banking system functions and understand that the banking is a business of trust

Need for Financial Intermediation : Need for Financial Intermediation Financial intermediation is required to: Facilitate the productive use of the community’s surplus money. Transfer funds from savers to entrepreneurs, without any chances of loss. Manage the following risks during lending: Credit risk Liquidity risk Interest rate risk, Generate employment and promote economic welfare. Provide business opportunities to depositors.

Types of Financial Intermediaries in India : Types of Financial Intermediaries in India The following figure shows the various types of financial intermediaries.

Players in the unorganised sector are: Money lenders Indigenous bankers Chit funds Nidhis or mutual benefit funds Self Help Groups

Initiatives undertaken by the government to reduce the adverse impact on the efficacy of Monetary policy: Development Financial Institutions (DFIs) State Financial Corporations (SFCs) Insurance companies Mutual Funds (MFs) Non Banking Finance Companies (NBFCs)

All India development financial institutions: Set up to provide financial assistance for establishing the following industrial ventures in India: IFCI IDBI ICICI IIBI SIDBI

State level financial corporations: Are legal bodies created under the State Finance Corporations Act, 1951. Are funded through issue of shares. Raises fund through the issue of bonds and debentures. Extends seed capital assistance to budding entrepreneurs.

Insurance companies: Fulfil the insurance needs of the community. Provide both life and non-life insurance. Encourage private players to offer insurance products to investors. Offer policies that can be structured and customised to suit the needs of the investors. Enable banks to cross sell the insurance products to their existing customers.

Mutual Funds: A mutual fund is a type of professionally-managed collective investment scheme that pools money from many investors to purchase securities. While there is no legal definition of mutual fund, the term is most commonly applied only to those collective investment schemes that are regulated, available to the general public and open-ended in nature. Invest the resources collected in the capital and money market securities. Offer the specific schemes to cater different needs of the investors: Growth funds Dividend funds Income funds Balanced funds

Money market funds Equity related funds Non banking finance companies: Are commonly known as finance companies. Are corporate bodies, which concentrate mainly on lending activities. Are categorised as: Finance companies Leasing companies Loan finance companies Investment finance companies

Banking – A Business of Trust : Banking – A Business of Trust Principles on which banking business is based : Liquidity Safety Profitability Confidentiality To offer the above with Quality.

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