Competency 4.02 Understand the Banking System

1
Competency 4.02Understand the Banking System
4.0 Understand the Role of Finance in Business

• Objective 4.02-A
• Analyze the roles/responsibilities of the Federal
  Reserve.

2
The Federal Reserve System

• What is the Federal Reserve System?
• Why does it exist?
• Who participates?
• How is it organized?

3
The Federal Reserve (The Fed)A Centralized
Banking System

• Federal Reserve Act signed into law by President
  Woodrow Wilson
• Organized by the Federal Government in 1913
• Why have The Fed ? Purpose
• To establish and maintain confidence in the US
  monetary system
• To ensure a safe, healthy and stable economy
• To supervise and regulate member banks and help
  serve the public efficiently.
• Prior to the Federal Reserve Act anyone could
  issue currency or coin money

4
Who Participates in Federal Reserve?

• All National Banks are required to be part of the
  Fed
• Optional for state banks
• Divisions are called DISTRICTS
• There are 12 DISTRICTS in the United States
• Every state comes under a district
• Each Federal Reserve Bank is a corporation, owned
  by its member banks

NC is in District 5, the Richmond District.
5
The Federal Reserve

• What are the two arms of The Fed?
• Board of Governors
• Represents the government (public) sector
• District Federal Reserve Banks
• Represents the business (private) sector

6
Board of Governors

• Usually meet about twice a week, ordinarily on
  Mondays and Wednesdays
• Public is invited to look into the meetings of
  the Board of Governors
• Usually discuss monetary policy such as lowering
  and raising interest rates

The Board Room at the Federal Reserve in
Washington, DC
7
Members of the Board of Governors

• Ben S. Bernanke, Current Chairman
• Alan Greenspan, Retired Chairman  
• Chairman is appointed by President and confirmed
  by Senate
• Similar to procedure for Supreme Court Justices

8
Purpose of Federal Reserve

• Established to supervise and regulate banks
• Known as the Banks bank
• The central bank of the United States
• Assists banks with serving the public more
  efficiently
• All national banks are required to join the
  Federal Reserve System
• State banks have the option of joining the system

9
The Federal Reserve System Services

1. Supervision of banks
2. Agent for the federal government
3. Regulates monetary policy
4. Lends money to member banks
5. Acting as a clearinghouse
6. Participation in open market activities
7. Sets loan limits standards
8. Supplies currency

10
1. Fed Supervision Set Reserve Requirements

• Member banks are required to keep a certain
  percentage (10 for many years) of all deposits
  in the banks vault or on deposit with the
  district federal reserve bank
• Reserves funds set aside for emergencies
• Example a rush of withdrawals by customers
• Purpose to reduce risk of bank panics and
  protect depositors money

11
1. Fed Supervision Audits Member Banks

• Inspects banks by auditing financial records
• Audit -an inspection of records to verify the
• 1. accuracy of books (records) of the bank
• 2. bank is complying with banking laws
• Similar to Individuals/corporations who are
  audited by the IRS to review the accuracy of a
  tax return.

12
1. FED Supervision Approves Bank Mergers

• Q Why do banks merge?
• To be more competitive
• -to offer customers more locations (local,
  regional, national, international)
• -to offer a variety of services more efficiently
• -to compete with a growing array of other
  financial service companies such as
• money market and other mutual funds
• mortgage companies
• credit unions and
• credit arms of industrial firms (General
  Electric and Ford Motor)
• Here are some recent bank mergers approved by
  The Fed in 2007-2008
• Bank of New York bought Mellon Financial
  Corporation for 18.3 Billion
• JPMorgan Chase bought Bear Stearns for 1.1
  Billion
• Bank of America bought Merrill Lynch Bank of
  America for 50 Billion
• Wells Fargo bought Wachovia for 15.1 Billion

13
2. Fed Acts as Agent for Federal Government

• The Fed holds a checking account for the US
  Treasury
• Disburses social security benefits and other
  transfer payments using the direct deposit system
  
• Accepts some types of federal tax money
• Example Federal tax depositories
• Payroll taxes - federal income tax, FUTA, and
  social security taxes are deposited using federal
  deposit coupon into a national bank

14
3. FED Regulates Monetary Policy

• What is Monetary Policy? When the Federal
  Reserve influences money and credit conditions in
  the economy to achieve economic goals
• How? The Fed determines amount of money in
  circulation and available for loans, then either
  increases or decreases to stabilize/stimulate the
  economy
• Tight money- policy when less money is available
  at higher interest rates, slows (stabilizes)
  economy
• Loose money- policy when more money is available
  at lower interest rates, increases (stimulates)
  economy

15
4. FED Lends Money to Member Banks

• Monitors the discount rate of interest - rate
  used by the Fed to loan money to member banks
• Compare banks to intermediaries (go-betweens)
  trading in money at wholesale prices
• The Fed changing interest rates affect borrowers
  (member banks) who pass rates to consumers
• Raising rate - discourages borrowing
• Reducing rate - encourages borrowing
• Note the Federal Reserve does not loan money to
  individuals or businesses (only member banks)
  HOWEVER, rates the Fed charges member banks
  trickle down and affect the interest rates for
  consumers

16
5. FED Acts as Clearing House

• Clears/Processes/Settles checks for member banks
• Federal Reserve uses the Automated Clearing House
  (ACH) to electronically complete fund transfers
  (check settlements) between banks
• Interdistrict Settlement Fund in Washington, DC
  used for between district transfers
• Checks/deposit slips have MICR coding
• Magnetic Ink Character Recognition
• Scanners read MICR on checks to electronically
  process data accurately and rapidly through the
  ACH and Interdistrict Settlement Fund

17
6. FED Participates in Open Market

• Participates in open market operations by buying
  and selling government securities
• Q What are government securities?
• A Treasury bills and bonds loans to government
  in various denominations (amounts) and for
  various time periods
• Advantages and Disadvantages
• offer a fixed rate of interest over a fixed
  period of time
• attractive because not subject to income taxes
• - cannot be easily transferred and are
  non-negotiable

18
Open Market Operations

• Government securities are sold at a discount
  (from face value), but are redeemed (cashed in)
  for face value on the maturity (due) date
• Examples
• Purchase treasury note for 7500 (discount
  price), redeem at maturity date for 10,000 (face
  value)
• Purchase Series EE savings bond for 25, redeem
  in 7 years at maturity for 50

19
Government Securities

• Savings bonds - Example Series EE-
• Denomination minimum 25
• Payable after 6 months
• Earns interest up to 30 years
• Short-term obligation of the U.S. Treasury
  Treasury bill maturity in one year or less
• Issued to mature in 13 weeks, 26 weeks, 52 weeks
• Long-term obligation of the U.S. Treasury
• Treasury note maturity at 1 to 10 years,
  minimum 1000
• Treasury bond - maturity at 10 years

20
Open Market Operations

• Bank discount rates encourages borrowing by
  member banks, and therefore encourages borrowing
  by consumers
• Purpose of open market operations
• Regulate money supply
• Most frequent method of controlling the economy
• Who controls open market operations?
• Federal Open Market Committee (FOMC)-
• A committee within the Federal Reserve

21
7. The FED Sets Lending Standards

• Sets standards for consumer legislation dealing
  with lending and credit
• Sets limits for loans and investments by member
  banks
• News Federal Reserve revised bank lending rules
  since banking crisis
• Ex Lower of total loans for land/acreage

22
8. The Fed Supplies Currency

• Money defined
• a medium of exchange for value
• US money currency and coins
• Federal Reserve supplies paper currency
• Legal Tender for all debts, public and private
• Paper currency supplied is Federal Reserve
  Notes
• Printing currency (paper money, bills)
• Bureau of Printing and Engraving
• Counterfeiting - federal crime
• Coinage
• Minting supplied and regulated by the Department
  of Treasury, US Mint

23
St. Louis Federal Reserve

• http//www.stlouisfed.org/education_resources/

24
Topics

• Classification of financial institutions
• Depository
• Non-depository
• Common payment services
• Electronic Funds Transfers
• Online Bill Pay
• Checking Accounts
• Specialty checks
• Money Orders

25
Classification of Financial Institutions

• Depository
• Earns money to finance their business by
  accepting deposits from customers
• Types include
• Commercial banks- full service - offer many
  different services, including savings, loans, and
  checking accounts.
• Savings and Loan associations (SLs)
  -traditionally specialize in savings and home
  loans, but now are very similar to commercial
  banks.
• Mutual savings banks- owned by the depositors and
  specialize in savings and home loans.
• Credit unions- not-for profit, serve their
  members only, and are owned by their depositors.

26
Classification of Financial Institutions

• Non-depository
• Earns money to finance their business by selling
  specific services such as policies, investments,
  and loans
• Types include
• Life insurance companies -term, whole, universal
• Investment companies - stocks, bonds, mutual
  funds
• Consumer finance companies higher rates if bad
  credit
• Mortgage companies loan for land, buildings,
  homes
• Check-cashing outlets fee based if do not have
  bank acct
• Pawnshops loan based on value of item pawned

27
How To Compare Financial Institutions

• Which characteristics of financial institutions
  are of interest?
• Services offered
• Safety
• Convenience
• Fees and charges
• Restrictions
• What kinds of questions may be asked about each
  characteristic?

28
Comparative Questions

• Services Does the institution offer needed
  services?
• Savings
• Depository for payroll taxes
• Checking
• Various options to meet customer needs
• Loans
• Short term - working capital
• Long term - mortgage
• Credit cards
• Debit cards
• Safe deposit boxes
• Trust management

29
Comparative Questions

• Safety Is the institution insured against
  losses?
• Federal Deposit Insurance Corporation (FDIC)
  Created by Congress to maintain stability and
  public confidence in the nations financial
  system insures deposits, supervises financial
  institutions
• National Credit Union Administration
• (NCUA) Charters and supervises credit unions

30
Comparative Questions

• Convenience Does the institution offer the
  access desired?
• Physical locations available
• Online services
• Easy to access use
• ATM machines

31
Comparative Questions

• Restrictions Are there minimum balances that
  must be kept, or other restrictions?
• Minimum balance- amount required to stay in
  account at all times
• If account keeps minimum balance, fees are often
  waived (eliminated)

32
Comparative Questions

• Fees and Charges What are the short and
  long-term costs of the services?
• Flat monthly fees
• Fees per transaction
• NSF (Non-sufficient funds) fees
• Checks written
• Debit transactions
• of transactions allowed before fees begin
• Minimum balance required to eliminate fees

33
Common Payment Services

• Electronic Funds Transfers
• Online Bill Pay
• Checking Accounts
• Personal, business
• Specialty checks
• Certified, Cashiers, Travelers
• Money Orders
• Postal, Express, Telegraphic

34
Online Bill Pay

• Use the web to make payments
• Often fee based
• Privacy can be issue
• Change PIN frequently
• Use only safe sites
• Write Online Bill Pay questions 1-3 from next
  slide on notebook paper. Use the website to
  answer the questions.
• http//banking.about.com/od/bankonline/f/setupbill
  pay.htm

35
Online Bill Pay Questions

• What are the two types of online bill pay?
• What is automatic bill pay?
• Choose link Banking 101
• Choose link 3 reasons to avoid online banking.
• List 3 reasons given.

36
Common Payment Services - EFT

• Electronic Funds Transfer (EFT)
• Banking method in which computers and electronic
• technology is used as a substitute for checks and
  other
• paper forms of banking
• Electronic Funds Transfer Options
• Automated Teller Machines (ATMS)
• Pay-By-Phone Systems
• Direct Deposit or Withdrawals
• Paychecks, automated bill payment
• Point-of-Sale Transfers
• Debit Cards
• Automatic Deposits and Payments

36
37
Checking Accounts

• Used by business and individuals to manage cash
  transactions
• Check-
• A preprinted form issued by the financial
  institution
• Account holder directs withdrawals by writing
  checks
• Parties to a Check
• Payee, Drawee, Drawer

38
Parties to a Check
Check Number
Drawers Name Address Joint Account
ABA
Payee
Check Date
Melanie Paige Charles Paige 319 619 Main
Street Raleigh, NC 27601 2-131/1034
July 16, 2010 Pay To the Order of
_____Donnie Tatum______________________100.50 _On
e hundred and 50/100 -----------------------------
----------------------DOLLARS State Credit
Union For _______________ Charles
Paige 2131/103478434 234320 100.50
07-18-2010 2251
Drawers Signature - Last item completed on
check!
38
Bank Name - Drawee
Memo
MICR Banking s
39
Record Keeping

• IMPORTANT
• Keep a current balance in check register or on
  check stub by
• Recording deposits
• Recording withdrawals
• Checks written
• EFTs
• Bank Fees

40
Common Payment Services

• Special Checks
• Travelers check
• Requires 1st signature when check issued
• Requires 2nd signature when check used
• Go to link below and read about travelers checks
  and how they work.

http//usa.visa.com/download/merchants/visa_travel
ers_cheques_acceptance.pdf
41
Travelers Checks

• Travelers Checks Draft drawn by a well-known
  financial institution on itself or its agent,
  used when traveling
• Go to website
• http//www212.americanexpress.com/dsmlive/dsm/dom/
  us/en/personal/cardmember/additionalproductsandser
  vices/giftcardsandtravelerscheques/travelerscheque
  sandforeigncurrency.do?vgnextoid6d17fc671492a110V
  gnVCM100000defaad94RCRD

• Write questions 1-3 on notebook paper. Use the
  website to answer the questions.
• Click on Learn More about Travelers Checks.
• List the 4 steps in how to use travelers checks.
  
  
• List 5 ways Travelers Checks mean Peace of Mind.
• What is the benefit of Cheques for Two?

42
Certified Check

• A certified check is written by a bank for you
  from your bank account to give to someone.
• It's guaranteed funds that the bank reserves from
  your account.

• Go to website http//www.superpages.com/supertips
  /what-is-a-certified-check.html
• Write Certified Check questions 1-5 from next
  slide on notebook paper. Use the website to
  answer the questions.

43
Certified Check Questions

1. Who issues a certified check?
2. Give two examples of when you might need a
   certified check?
3. Why cant a certified check bounce?

1. Why does a creditor require a certified check?
2. Do banks charge a fee for a certified check?

44
Cashiers Check SampleCashiers Check A check
the bank draws on itself

45
Common Payment Services

• Money Order
• Draft issued by a post office, bank, express
  company, or telegraph company for use in paying
  or transferring funds for the purchaser
• Orders issuing agency to pay amount printed on
  form to another party

• Types of Money Orders
• Postal money order
• Express money order
• Telegraphic money order
• Go to website http//en.wikipedia.org/wiki/Money_
  order
• Write questions 1-5 from next
• slide on notebook paper. Use
• the website to answer the
• questions.

46
Money Order Questions

1. For what amount of money is a money order issued?
2. When was the Postal Order system established?
3. What is a concern about using money orders?

1. Who usually sells money orders in the United
   States?
2. Name 5 security features of a postal money order.

47
Common payment services

• Opening a checking account
• Signing a signature card is the first step
• Writing a check for payment
• Endorsing a check for deposit
• An endorsement allows the payee to cash the
  check, deposit the check or transfer payment of
  the check to someone else.
• Different types of endorsements
• Blank
• Full
• Restrictive

48
Check Endorsements

• Definition Signature on the back of a check
• What does an endorsement do?
• Allows payee to cash, deposit or transfer payment
  of the check to someone else
• Provides proof that the payee cashed or
  transferred payment of the check to someone else
• How should a check be endorsed?
• Endorser (payee who is signing) should sign the
  check the way it is on the front of the check and
  if the name is misspelled, correct the signature
  directly up under the first endorsement

48
49
Blank Endorsements
Should match payees name

• Signed with endorsers name only (endorser is
  payee from front of check)
• Can be cashed by anyone who holds the check with
  a blank endorsement!
• Dont use blank endorsement before you are ready
  to cash or deposit!

X Jane Doe



DO NOT WRITE BELOW THIS LINE
49
50
Special Endorsement

• Transfers payment of a check to someone else.
• Payee signs check , then writes pay to the
  order of another person
• Can be used to make payment on a debt
• Juan is payee on check
• Juan owes Maria money
• Juan transfers payment to Maria.

Debt money owed
Might also endorse Juan Delgado pay over to
Maria Fernandez
51
Full Endorsement Example

• Transfers payment to someone else
• Payee signs the check over to another person to
  receive payment
• Who was payee on check? John

X Pay to the order of
Jane Doe
John Doe

DO NOT WRITE BELOW THIS LINE
51
52
Restrictive Endorsement

• Limits use of the check so it can be deposited
  only to endorsers account.
• Safest type of endorsement
• Cannot be cashed by a thief or someone who finds
  the check
• Best to use when mailing a check for deposit or
  when using the ATM for deposit.

53
Check Writing Procedures

• Write information in the check register first,
  (ensure checks are written in numerical order)
• Write the date the check is written.
• Write the payees name.
• Write in the numerical amount of the check.
• Write in the amount of the check in words.
• Write in the purpose of the check.
• Sign the check.

54
How Do I Know the Amount in my Checking Account?

• Keep a Check Register or Check Stub Balance
• Subtract checks written (or debit card
  transactions) from balance
• Add deposits to balance
• Keep a running balance after writing checks or
  making deposits

• Check Register is YOUR documentation of how much
  money is in your account?
• What if mistakes are made?
• You will make corrections when you reconcile
  (balance) bank statement

55
Bank Reconciliation

• What is a bank reconciliation?
• Document that shows two equal balances
• Your record of your checking account
• The banks record of your account
• Do they have the same balance?
• Yes, or reconciliation is not complete!
• Reconciliation helps to find/correct any mistakes
  in your register!

56
Outstanding Checks

• What is an outstanding check?
• Outstanding checks are checks that have not
  cleared (been deducted from) the bank statement
  balance.
• Need to know items outstanding in order to
  reconcile statement
• How to know if checks are outstanding
• Find out which checks /deposits are outstanding
  by comparing the bank statement with the
  checkbook register

57
Reconciling a Checkbook

• Makes sure the banks records agree with your
  records
• 1. Check for outstanding checks and deposits
• 2. Check the checks, deposits, ATM activity on
  the bank statement to make sure that your records
  are correct
• 3. Make adjustments to the bank statement and
  your records to ensure that you and the bank have
  the same amount of money
• 4. Reconcile every statement upon receipt

57
58
Steps in a Bank Reconciliation

1. Obtain the monthly bank statement.
2. Determine checks paid.
3. Find differences between the monthly bank
   statement and monthly check register.
4. Calculate the adjusted balance.
5. If the balances do not agree, check the steps
   again and recalculate.
6. Account balances must be equal!