Summary:
Theory lectures Global Banking
PROFESSOR: FREDDY VAN DEN SPIEGEL
Gino Aytas | 2MA IB | Academic year 2022 – 2023
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,Practical information:
The final grade is composed out of an oral exam representing 100% of the mark. After
receiving the exam questions students have 1 hour to prepare.
1. Chapter I: The financial system and the role of banks
1.1. A BRIEF FINANCIAL HISTORY
1.1.1. The concept of money
When talking about a financial system we need to be clear about the core element on which
it is build, being money.
But what is the definition of money? It can be defined as:
• Any instrument
• In a certain period and region
• Generally accepted in exchange for goods and services
The utility of money is not in the physical object itself, but in its function to obtain goods
and services. We don’t accumulate money to have a lot of it but rather to obtain access to
things we consider to be useful. It is a conventional instrument, meaning that we believe
in it and accept it because we believe that others do as well. If we were to stop believing in
a certain type money it will stop being money.
The functions of money are:
• Medium of exchange
o Can be exchanged for goods and services
• Store of value
o All items in the economy are priced at a certain amount and value
• Unit of account
o Universal tool used, allows for easy comparisons as money is defined equally
o Comparing the wealth of people would be difficult witouth money
o Convenient for governments to use as a tax basis
Ex. 2 farmers with different livestock can be only compared in wealth if we know the amount
of money their livestock represent
• Standard for deferred payments
o One can lend money to someone else in return for that amount at a later
date with an interest. Usually based on a contract.
These functions of money bring us to the business model on which banks function. They
work with a good, namely money that is the medium of exchange, therefore wanted by
everyone. It is a unit of account, a store of value and most importantly an instrument to
facilitate loans.
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,Over time economies have evolved. In primitive economies there was no money, but rather
barter. Barter is the direct exchange of goods and services for each other. Next there was
the most primitive form of money, namely commodity money. Any commodity such as
iron or copper was money in certain economies, accepted by all due to its inherent value.
In more developed economies precious metals such as gold and silver functioned as
money. It became money as these metals were accepted by all in return for goods and
services. In these economies that used precious metals the shift towards currencies
occurred. Such currencies were coins produced that represented certain amounts of gold.
This was more convenient to use, brought about by kings and governments of economies.
These governments and kings guaranteed the users of the currency that the coins and bills
represents the value of its underlying, still being gold. Later on currencies were also
represented by paper, in the form of bank notes. Such bank note represents gold that is
kept in the safe of the government and can be exchanged for it.
Since the 20th century this direct exchange for a valuable good such as gold is gone.
Governments decided that something was money, making it the legal tender. Ultimately
making the value of money based on trust and confidence, which is called fiat money.
This brings us to the types of money that circulate today:
• Notes and coins
o Issued by a country’s central bank
• Demand deposits
o When money is deposited into a bank account
o Bank promises that it can be withdrawn at any time
• Smart cards
o Money is completely digitalized
o Ex. Credit card
• E-money
o Stored in the cloud
o Ex. Gift cards with in store credit
• Alternative money
o Money created by an algorithm, decentralized
o Ex. Crypto currencies such as Bitcoin
Looking further into the example of Bitcoin as an alternative money we can say that it is a
type of money created by an algorithm which manages the volume in circulation. Its value
is based on demand and supply. Alternative money is becoming more and more prominent.
The European Central Bank (ECB) is working on a digital version of the euro based on the
principles of cryptocurrency. However its actual real life use is up for debate. El Salvador
started accepted Bitcoin as a legal tender which has proven a spectacular failure. A possible
explanation for this is the volatility of Bitcoin, as it is not managed to be stable by a central
bank (CB).
1.1.2. Development of financial intermediaries
Once we had money a big challenge came about, that every civilization had its own type of
currency. The Egyptians had another system (of coins) than the Greek, even in Greece itself
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, Athens differed from Spart. This was inconvenient for international trade and travellers.
Banks (or rather temples) stepped in as foreign money exchanges.
There was also a need to safely deposit money, this was facilitated by pure deposits. Often
done via temples of religious organisations at the time. These protected the money against
thieves, as it was kept in fortified locations which the population trusted to be safe.
Later on the temples started offering loans with own funds against deposited guarantee.
Such a deposited guarantee were real goods the temples kept as collateral till the loan was
paid back in full.
Over time the development of financial activities expanded. The possibility of payments
(or delivery) was included. This meant that a certain temple within an organisation could
ask another to make a payment elsewhere abroad.
This primitive banking activity was not really banking yet. It only becomes banking when
interest rates are collected on loans by deposits. These loans were facilitated using the
money deposited by customers into the bank rather than by money the bank made
themselves. However interest rates have always been a delicate matter, as in a lot of
religions they are considered unethical. There was an ethical rule that allowed loans to be
made, but not ask more than given. It was seen as a threat to democracy. Nowadays we still
see this principle preserved in Islamic Law.
Over time interest rates, especially in the Christian world, became more accepted. Interest
rate was started to be seen as a renumeration for the work of the lender. As the lender
has to analyse the credit risk of giving out a loan. At the maturity of the contract the bank
has to collect the money. All of this together is considered the work of the lender, for which
you can be rewarded using interest rates. This led to the creation of the modern Italian
banker in the 14th century. Firenze was an important financial centre in the western world
at the time, the first real banks originate therefrom.
This transformed into the financial system consisting of CBs and commercial banks. The
creation of money by private commercial banks was no longer allowed and became a public
function of the CB in a country. Commercial banks had the right to accept deposits, but
could not create money.
1.2. WHAT IS A BANK?
As is the case for money, there is no generally accepted definition of what a bank is. What
is considered a bank can vary from time to time (evolving) and from region to region (local
regulatory framework). What the EU considers a bank will likely be different from what
the US or China consider as one.
For the EU this local regulatory framework, being the Capital Recruitment Regulation
(CRR), states the following definition for what a ‘bank’ is:
CRR, Art. 4
“Credit institution” means an undertaking the business of which is to take deposits or
other repayable funds from the public and to grant credits for its own account.”
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