Chapter 9.3 Flashcards
The Financial System (135 cards)
1
Q
What are financial intermediaries?
A
Entities that invest funds on behalf of others and change the nature of the transactions
2
Q
What are market intermediaries?
A
Entities that facilitate the working of markets and help provide direct intermediation but do not change the nature of the transaction; also called brokers
3
Q
What sector is the primary provider of funds to business and governments?
A
The household sector?
4
Q
How is the basic financial flow “intermediated” through the financial system?
A
Compromises:
1. Financial intermediaries that transform the nature of the securities they issue and invest in
2. Market intermediaries that simply make markets work better
5
Q
Does the financial system only apply to Canada?
A
No, it’s an overview of the financial system of any economy
6
Q
What is the whole package of institutions?
A
Canadian financial system
7
Q
What is intermediation?
A
The transfer of funds from lenders to borrowers
8
Q
What does the channels of money transfer demonstrate?
A
Financial system transfers money from those with a surplus (lenders) to those who need it (borrowers)
9
Q
What does the transfer between lenders and borrows occur through?
A
Intermediation: the process of bringing these parties together
10
Q
What are some examples of ways intermediation can occur between lenders and borrowers?
A
Borrow directly from friends, relatives, and acquaintances
Borrow from a specialized financial institution (Royal Bank of Canada: RBC Financial Group)
Both are extremes in terms of the transfer of money from lenders to borrowers
11
Q
Why is borrowing directly from friends, relatives, and acquaintances an extreme example of intermediation?
A
Borrowers obtain funds DIRECTLY from individuals
12
Q
Why is borrowing from a specialized financial institution an extreme example of intermediation?
A
Borrow INDIRECTLY from individuals who have first loaned their savings to (deposited them into) a financial institution, which in turn lends to the ultimate borrowers
13
Q
What are the 3 basic channels of intermediation?
A
- Direct intermediation
- Direct intermediation with some help needed
- Financial intermediation (indirect claims)
14
Q
How does the direct intermediation work?
A
First channel of intermediation
Lender provides money directly to the ultimate borrower w/o any help from a specialist
Non-market transaction
15
Q
Why is direct intermediation with no help from specialists a non-market transaction?
A
The exchange is negotiated directly btween the borrower and lender
16
Q
Give an example of direct intermediation.
A
A relative lending money to buy a car or helping to finance a degree program
17
Q
How does direct intermediation with some help needed work?
A
Second channel of intermediation
Also represents direct intermediation between the lender and borrower
In this case some help needed because no one individual can lend the full amount needed/borrower isn’t aware of the available lenders
Borrower needs help to find suitable lenders (what market intermediaries do)
18
Q
What is a market intermediary and what do they do?
A
An entity that facilitates the working of markets and helps the direct intermediation process
Help borrowers find suitable lenders
19
Q
What are market intermediaries typically called?
A
Brokers
20
Q
What kind of brokers does the real estate market have and what do they do?
A
Real estate and mortgage brokers
Help with the sale and financing of houses
21
Q
What kind of brokers does the insurance market have and what do they do?
A
Insurance brokers
Facilitate the sale of insurance
22
Q
What kind of broker does the stock market have and what do they do?
A
Stockbrokers who facilitate the sale of financial securities, particularly shares
23
Q
Overall how do market intermediaries help their respective market?
A
Help make the market work
24
Q
What are the responsibilities of market intermediaries/brokers?
A
Assist with the transaction and bring borrowers and lenders together, but don’t change the nature of the transaction itself
25
What are agency transactions and how are market intermediaries agents?
Assist with transaction, but don't change the nature of transaction itself
26
What is the most important financial market in Canada?
The stock market: Toronto Stock Exchange (TSX)
27
What is the TSX and how does it support market intermediaries?
Toronto Stock Exchange
Supports a variety of market intermediaries. Ex:
Stockbrokers who advise clients through traders who buy and sell securities to investment bankers
Investment bankers who help companies raise capital
In each case, their raison detre is to make markets work; in doing so, they affect agency transactions
28
What are the 2 patterns of intermediation?
Both from lenders to borrowers
1. Direct Claims (non-market transactions and market intermediaries)
2. Indirect Claims (financial intermediaries)
29
What is the third channel?
Represents financial intermediation
30
How is the third channel (financial intermediation) completely different?
Ultimate lenders have only an indirect claim on the ultimate borrowers; their direct claim is on the financial institution
31
How does the third channel (financial intermediation) work?
Represents financial intermediation, a situation in which the financial institution or financial intermediary lends the money to the ultimate borrowers but raises the money itself by borrowing directly from other individuals
32
Which of the following changes the nature of transactions: financial intermediary, market intermediary
Financial intermediaries change the nature of transactions, whereas the market intermediary does not
33
Why are financial intermediary transactions called "principal transactions"?
Because the financial intermediary acts as a principal on its own behalf rather than as an agent on behalf of its clients
34
How are the intermediations with both individuals and financial intermediaries similar and different?
Both individuals and financial intermediaries are involved in lending to the ultimate borrowers, it's just the route to these ultimate borrowers differs
Market intermediaries help financial intermediaries, as well as individuals, in their dealings with the ultimate borrowers
35
When do we refer to the 2 market segments as the "retail" and "institutional" markets?
When market intermediaries help individuals, it's retail
When they help financial intermediaries, it's institutional
36
What do financial intermediaries rely on in order to lend to the ultimate borrowers?
The willingness of individuals to lend to them; otherwise, they can't lend to the ultimate borrowers, who're the ones who really need the money
37
What is a credit crunch?
A situation in which financial intermediaries have to raise the cost of their loans by a significant amount due to their own inability to raise financing on reasonable terms
38
How are credit crunches caused?
When people are not willing to lend to financial intermediaries, and those intermediaries, in turn, have to restrict whom they can lend to
39
When did Canada experience the worst credit crunch in over 75 years and what was it caused by?
In 2008-2009
Because major financial intermediaries in the US and Europe purchased direct claims from issuers who couldn't repay them
40
What was the biggest-ever bankruptcy and biggest-ever bank failure in the US caused by?
Financial intermediaries purchased direct claims from issuers who couldn't repay them
Consequently other lenders unwilling to lend to major financial intermediaries
41
When did the biggest-every bankruptcy and biggest-ever bank failure in the U.S. occur, and what companies caused it?
September 2008
Biggest-every bankruptcy (Lehman Brothers Holdings Inc.)
Biggest-ever bank failure (Washington Manual, Inc.)
42
What were the effects of the failures in the U.S. banking system in 2008?
Generated panic that quickly spread around the world as the financial health of otherwise sound financial intermediaries was questioned
Credit dried up = whole world experienced full-blown credit crunch
Rippled through whole financial system and and pushed world into first-ever global recession
43
In terms of financial institutions, what is the most familiar and important category?
The Canadian chartered banks
44
What are the 6 biggest Canadian chartered banks (in terms of revenue, assets, net income)?
1. Royal Bank of Canada
2. Toronto-Dominion Bank
3. Bank of Nova Scotia
4. Bank of Montreal
5. Canadian Imperial Bank of Commerce
6. National Bank of Canada
45
What do chartered banks do?
Canadian banks involved in almost all areas of the financial system
Core activity: act as deposit takers and lenders
46
What does it mean for a bank to act as deposit takers and lenders?
Take in deposits from individuals and institutions and then lend the money to others as loans
47
All the assets of the Big Six banks added up is $5,302 billion which is much more than the __________ of the household sector
Net liabilities
$651 bil in consumer credit
$113 bil in loans
$1428 bil in mortgage debt
48
What does the $5,302 bil of total assets of the Big Six banks reflect?
All of the lending within the household sector that StatsCan netted out plus the corporate financing and foreign activities of the banks
49
T or F: Canadian banks are among the soundest banks in the world
True and recently have become paragons of prudence
50
Banking is a _____ margin, _____ turnover business in terms of business model
Low margin, high turnover
51
What does it mean for the business model of banking to be low margin and high-turnover?
A bank makes lots of "sales" (loans) but each one in and of itself is not highly profitable
52
Give an example of a bank's business model being low-margin, high-turnover.
RBC: assets of $1,334.7 bil and net income of only $12.4 bil
All TBC has to lose on its assets is 0.931% after tax ($12,431/$1,334,734)
It will have no profits at all
53
When may investors start to worry about whether a bank can survive? What will be the result?
After a couple of years of losses, then they will start to worry and a full-scale credit crunch will erupt
54
What was the largest bank in the world in 2008 and what happened to it and the U.S. banking system that year?
Citigroup Inc: overall market value drop from US$260 bil in 2006 to US$5 bil. Series of losses that peaked in 2010 (pre-tax loss of US$140 bil)
Global losses in banking rose to $1.24 tril
55
Besides banks (overwhelmingly the most important financial intermediaries) what is another very large financial intermediary?
Major insurance companies
56
What are the 3 major insurance companies in Canada (the big 3)?
1. Great-West Lifeco Inc.
2. Manulife Financial Corporation
3. Sun Life Financial Inc.
57
How much in assets did each of the big 3 insurance companies in Canada have at the end of 2018?
Over $270 billion in assets
58
Technically, is life insurance not insurance? Why or why not?
It is not insurance, we are all going to die, so we can't insure against it, but it's often a form of savings
59
What are insurance companies classified as and why?
Contractual savers because, in most cases, the premiums on a policy are paid every month, so the insurers receive a steady flow of money
60
How do insurance companies receive a steady flow of money?
You buy life insurance and pay premiums; then you die and the policy pays off to your survivors.
61
When do insurance companies have all the premiums to invest?
Before you die, which is why many view selling insurance as simply a way of getting "free" money to invest
62
As long as what has to happen in order for a insurance company to be running smoothly in terms of finances?
As long as the insurance company can invest the proceeds from the premiums to earn a good return, things are fine
63
Give an example of an Insurance company making risky investments and the consequences of it.
American International Group (AIG) world's biggest insurance company from 2006-2008 invested in exotic financial securities issued by major U.S. banks
Consequence: U.S. gov forced to inject over US $170 bil into AIG to "rescue" it; otherwise its collapse would have been like that of Washington Mutual and Lehman Brothers
64
What are the 2 largest components of the major financial assets of the household sector?
1. Insurance & pension assets
2. Direct investments in equity and investment funds
65
Who are the funds in pension plans held for and what do they substitute for?
Held directly for their pensioners, and they sub for having individuals save for themselves for their retirement
66
What are the 4 largest pension plan managers of Canada?
1. Canada Pension Plan Investment Board (CPPIB)
2. Caisse de depot et placement du Quebec
3. Ontario Teachers Pension Fund (Teachers)
4. Ontario Municipal Employees (OMERS)
67
How does the Caisse de depot et placement du Quebec (a pension plan manager) differ from other major pension plan managers in Canada?
Manages the investments of several pension plans
68
How are pension plan managers similar to insurance companies?
Both contractual savers that receive steady flow of money each month
69
What is the largest pension fund manager in Canada and how much did they have in assets under management as of the end of 2018?
The Canada Pension Plan Investment Board (CPPIB)
$370 bil in assets under management
70
What is the Caisse de depot et placement du Quebec?
the second largest pension fund manager in Canada
Manages the assets of several Quebec based pension funds
71
What are the 3 types of financial intermediaries that are financial institutions that change the nature of the financial contract?
1. Chartered banks
2. Insurance companies
3. Pension funds
72
How do the chartered banks change the nature of the financial contract?
Take in deposits and make loans
73
How do insurance companies change the nature of the financial contract?
Take in insurance premiums and pay off when an incident such as a death or a fire occurs
74
How do pension funds change the nature of the financial contract?
Take in contributions and provide pension payments after plan members retire
75
What have traditionally been the 3 most important types of financial intermediaries?
1. Chartered banks
2. Insurance companies
3. Pension funds
76
What are mutual funds?
Simply act as a "pass-through" for individuals providing them with a convenient way to invest in the equity and debt markets
77
How are mutual funds similar to insurance and pension plans?
Many mutual funds receive their money through monthly savings plans, but this isn't always the case
78
How are mutual funds unlike other financial intermediaries?
Do not transform the nature of the underlying financial security
79
What 2 major functions do mutual funds perform?
1. Pool small sums of money so they can make investments that would not be possible for smaller investors
2. Offer professional expertise in the management of those funds
80
How has the amount of mutual fund assets under management grown since 1993 in $ amount?
Have enormous amounts of money under management
1993: $114.6 bil
2018: $1,423 bil
Earlier:
1963: $1 bil
1990: $24.9 bil
81
Why did the total assets under management fall dramatically in 2008 (by $190 billion)?
Due to the severe financial and economic crisis that developed in the second half of the year and the associated stock market crash
82
Before the dramatic fall in total assets under management in 2008, when was the last time this had happened and why?
2002: economy went into a slowdown and the stock market declined
83
How are the dramatic falls in total assets under management of 2002 and 2008 similar in terms of growth in the following years?
Growth rebounded in the years following the decline
84
What is at the core of the Canadian financial system?
Ordinary Canadians who want to buy houses and televisions, save for retirement, and protect themselves from the impact of accidents
85
Who do household Canadians channel their savings to? How do they channel it directly and indirectly?
Ultimate borrowers (governments and businesses)
Directly: retail investors
Indirectly: through the major financial intermediaries where the money is invested by institution investors
86
Give an example of how governments are important in the process of intermediation (money transferred from lenders to borrowers either directly or indirectly).
Canada Pension Plan (CPP) and the Quebec Pension Plan (QPP) play large roles in channelling funds from lenders to borrowers
Govs also provide many services to Canadians some paid for out of taxes and some paid for by borrowing
87
What are the 2 ways intermediation can happen (money transferred from lenders to borrowers)?
1. Directly (through market intermediaries)
2. Indirectly (through financial intermediaries)
88
In 2017 how much were the total expenditures of all governments in Canada (federal, provincial, and municipal)?
$849.4 billion with the federal government obviously being the largest spender
89
What are crown corporations?
Government-owned companies that provide goods and services needed by Canadians
90
What do government-owned Crown corporations provide to Canadians?
Goods and services needed by Canadians
91
What are the 2 largest (in terms of company assets) Crown corps?
1. Hydro Quebec
2. Ontario Power Generation Inc. (OPG)
92
In 2018, how much in total assets did Hydro Quebec have?
$77 billion
93
In 2018 how much in total assets did OPG have?
$52.3 billion
94
Why do Crown corporations represent important borrowers in the financial system?
Issue debt to finance company growth and expenditures
95
T or F the government debt market doesn't play much of a role in the financial system
False, it plays a very important role
96
Even though the federal government produced a surplus every year from 1997-2009, what caused the federal government to return to a deficit? How much did the deficit amount to by 2017-2018?
Financial crisis and recession of 2008-2009 caused federal gov to return to deficit which amounted $19 bil by 2017-2018
97
How much had the amount of Canadian federal debt outstanding increased to by March 31, 2018?
$671.3 bil
98
What does the Canadian federal debt outstanding say about the federal government as a debtor and borrower?
Federal gov is a net debtor and significant borrower
99
How do we assess how much debt a country has?
Divide the amount of debt by a country’s gross domestic product (GDP)
100
Why do we divide debt by GDP?
It standardizes the amount of debt by a country’s income, like dividing an individual’s debt by their income.
101
Was the federal government's debt-to-GDP ratio in 2017/18 lower than 2016/17's 32%?
Yes, it was 31.3%, dropping from 32% in 2016/17
102
What year was the federal government's debt-to-GDP ratio at its peak levels?
67% in 1995/96
103
What does an alternative perspective suggest about the reported government debt of $671.3 billion in 2017–18?
It suggests this amount understates the total value of “market debt” outstanding, which topped $1 trillion in 2018.
104
Why might total government debt reports be understated?
Federal budget data are presented under an accrual accounting method, which records transactions differently, spreads out the financial obligation and includes assets, such as cash-on-hand.
105
How much was Canada’s government debt in relation to the economy in 2018?
$1.029 trillion, about half of Canada’s $2-trillion economy.
106
What is Canada’s federal debt ceiling?
$1.168 trillion, which it's closely approaching
107
Governments have huge power to raise money from citizens through what methods?
- Direct taxation
- Monopolizing and charging higher fees for things that we want (gambling, alcohol, cigarettes)
108
What are "sin taxes"?
Governments monopolizing and charing higher fees for things that we want, such as gambling, alc, cigs
109
Because of the government's huge power to raise money from citizens, what is government debt generally regarded as and why?
"Default free" in the sense that it's the only debt ppl can invest in and know for sure that they will get the promised payments
110
When looking at various financial securities, what serves as benchmarks for the Canadian financial system?
Interest rates paid on different types of Government of Canada debt
111
What is an example of interest rates paid on different types of government debt not always serving as benchmarks for the financial system?
Sovereign euro debt crisis
112
Of all the monopolies that governments normally reserve for themselves, which is the most important?
That of printing the national currency
113
Which countries gave up on the monopoly of printing national currency and how?
17 countries of the European Community joined together to use a common currency
114
What did some countries in the European Community continue to do after adopting a common currency?
Continued to borrow money to finance government expenditures
115
What limits did some countries in the European Community ignore when borrowing money after adopting the common currency?
Limits to how much they could tax and how much they could cut their expenditures before the cuts caused civil unrest.
116
After adopting the common currency, why did some European countries have to rely on others to lend to them?
Because they no longer had the ability to simply print money.
117
Since 2010, what issue has affected the most indebted European countries?
Lenders have refused to lend to the most indebted European countries.
118
Which European countries were all but cut off from normal lenders and sought bailouts?
Greece, Ireland, Portugal, and Spain.
119
Who did Greece, Ireland, Portugal, and Spain seek bailouts from?
The richer members of the European Community, mainly Germany.
120
Why was sovereign debt regarded very risky for countries like Greece, Ireland, Portugal, and Spain?
They became increasingly reliant on funding from fellow Eurozone members and the International Monetary Fund
121
What did countries receiving aid from fellow Eurozone members and the International Monetary Fund have to implement?
Austerity measures.
122
What was the effect of austerity measures in Europe?
Austerity measures pushed Europe back into recession.
123
What is government debt and personal debts important for?
Government debt: as a benchmark
Personal debt: for financing houses and consumer credit
124
What is arguably the most important borrowing sector?
Business
125
Why is business arguably the most important borrowing sector?
Makes the goods and services we consume, and it borrows to finance growth in this capacity
126
In market value, how much did the Canadian business sector as a whole have in net financial liabilities outstanding?
$3,476 bil
127
Relative to the the market value of net government liabilities outstanding, how much did the Canadian business sector as a whole have in net financial liabilities outstanding?
4x the market value of net government liabilities outstanding
128
What are the 12 largest non-financial companies in Canada based on 2017 revenues?
2. Brookfield Asset Management Inc.
3. Power Corp. of Canada
4. Magna International Inc.
6. Alimentation Couche-Tard Inc.
7. George Weston Ltd.
9. Enbridge Inc.
11. Suncor Energy Inc.
14. Imperial Oil Ltd.
17. Costco Wholesale Canada Ltd.
18. Walmart Canada Corp.
19. Empire Co. Ltd.
20. BCE Inc.
129
What does revenue indicate about a company?
Revenue is an indicator of size, as it places a value on what we buy from a company.
130
What do a firm’s assets reflect?
Assets need to be financed and are reflected in the firm’s capital expenditure and corporate financing decisions.
131
In terms of profits, how do non-financial corporations typically compare to the big five chartered banks?
The profits of non-financial corporations are significantly less than those of the big five chartered banks.
132
What does the comparison of profits highlight about the big five chartered banks?
It reiterates the important role played by the banks in our financial system.
133
How do the profits of the largest non-financial companies compare to those of the big five banks?
The profits for any of these firms do not exceed those of any of the big five banks.
134
How many non financial companies had profits that exceeded those of the National Bank of Canada in 2018?
Only four of the companies' profits exceeded those of the National Bank of Canada in 2018.
135
What is notable about the two largest non-financial companies in Canada?
Both have significant components of their operations in the financial industry.
