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Financial Markets and Institutions

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Financial Markets

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FINANCIAL MARKETS
AND INSTITUTIONS
Ninth Edition
Global Edition

Frederic S. Mishkin

Graduate School of Business, Columbia University

Stanley G. Eakins

East Carolina University

Harlow, England • London • New York • Boston • San Francisco • Toronto • Sydney • Dubai • Singapore • Hong Kong
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To My Dad
—F. S. M.
To My Wife, Laurie
—S. G. E.

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Contents in Brief

Contents in Detail
Contents on the Web
Preface
About the Authors



PART ONE INTRODUCTION

9
27

31
39

41

1
Why Study Financial Markets and Institutions?
2
Overview of the Financial System

41
55



77

PART TWO FUNDAMENTALS OF FINANCIAL MARKETS

3
What Do Interest Rates Mean and What Is Their Role in Valuation?
4
Why Do Interest Rates Change?
5
How Do Risk and Term Structure Affect Interest Rates?
6
Are Financial Markets Efficient?

77
106

129
157



175

PART THREE FUNDAMENTALS OF FINANCIAL INSTITUTIONS

7
Why Do Financial Institutions Exist?
8
Why Do Financial Crises Occur and Why Are They
So Damaging to the Economy?

175



225

PART FOUR CENTRAL BANKING AND THE CONDUCT OF MONETARY POLICY

206

9
Central Banks
10
Conduct of Monetary Policy

225
244



285

PART FIVE FINANCIAL MARKETS

11
The Money Markets
12
The Bond Market
13
The Stock Market
14
The Mortgage Markets
15
The Foreign Exchange Market
16
The International Financial System

285
308
333
354
375
403

PART SIX THE FINANCIAL INSTITUTIONS INDUSTRY

425

17
Banking and the Management of Financial Institutions
18
Financial Regulation
19
Banking Industry: Structure and Competition
20
The Mutual Fund Industry

425
451
479
515

7

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8

Contents in Brief

21
Insurance Companies and Pension Funds
22
Investment Banks, Security Brokers and Dealers,
and Venture Capital Firms

540



594

PART SEVEN THE MANAGEMENT OF FINANCIAL INSTITUTIONS

23
Risk Management in Financial Institutions
24
Hedging with Financial Derivatives
Glossary
Index

570

594
615
649
667

CHAPTERS ON THE WEB
25

Financial Crises in Emerging Market Economies
26
Savings Associations and Credit Unions
27
Finance Companies

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W-22
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Contents in Detail
Contents on the Web
Preface
About the Authors




PART ONE INTRODUCTION
Chapter 1 Why Study Financial Markets and Institutions?
PREVIEW
Why Study Financial Markets?
Debt Markets and Interest Rates
The Stock Market
The Foreign Exchange Market

Why Study Financial Institutions?
Structure of the Financial System
Financial Crises
Central Banks and the Conduct of Monetary Policy
The International Financial System
Banks and Other Financial Institutions
Financial Innovation
Managing Risk in Financial Institutions
Applied Managerial Perspective
How We Will Study Financial Markets and Institutions
Exploring the Web
Collecting and Graphing Data
Web Exercise
Concluding Remarks
SUMMARY
KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES



27
31
39

Chapter 2 Overview of the Financial System
PREVIEW
Function of Financial Markets
Structure of Financial Markets

Debt and Equity Markets
Primary and Secondary Markets
Exchanges and Over-the-Counter Markets
Money and Capital Markets

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10

Contents in Detail

Internationalization of Financial Markets
International Bond Market, Eurobonds, and Eurocurrencies
GLOBAL  Are U.S. Capital Markets Losing Their Edge?
World Stock Markets
Function of Financial Intermediaries: Indirect Finance
FOLLOWING THE FINANCIAL NEWS  Foreign Stock Market Indexes
GLOBAL  The Importance of Financial Intermediaries Relative
to Securities Markets: An International Comparison
Transaction Costs
Risk Sharing
Asymmetric Information: Adverse Selection and Moral Hazard

Economies of Scope and Conflicts of Interest
Types of Financial Intermediaries
Depository Institutions
Contractual Savings Institutions
Investment Intermediaries
Regulation of the Financial System
Increasing Information Available to Investors
Ensuring the Soundness of Financial Intermediaries
Financial Regulation Abroad
SUMMARY
KEY TERMS
QUESTIONS
WEB EXERCISES




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PART TWO FUNDAMENTALS OF FINANCIAL MARKETS
Chapter 3What Do Interest Rates Mean and What Is Their
Role in Valuation?

77

PREVIEW
77
Measuring Interest Rates
78
Present Value
78
Four Types of Credit Market Instruments
80
Yield to Maturity
81
GLOBAL  Negative Interest Rates? Japan First, Then the United States, Then Europe 87
The Distinction Between Real and Nominal Interest Rates
88

MINI-CASE  With TIPS, Real Interest Rates Have Become
Observable in the United States
91
The Distinction Between Interest Rates and Returns
91
Maturity and the Volatility of Bond Returns: Interest-Rate Risk
94
MINI-CASE  Helping Investors Select Desired Interest-Rate Risk
95
Reinvestment Risk
95
Summary
96
THE PRACTICING MANAGER  Calculating Duration to Measure Interest-Rate Risk
96
Calculating Duration
97
Duration and Interest-Rate Risk
101

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Contents in Detail

SUMMARY
KEY TERMS
QUESTIONS

QUANTITATIVE PROBLEMS
WEB EXERCISES





Chapter 4 Why Do Interest Rates Change?

11

102
103
103
103
105
106

PREVIEW
Determinants of Asset Demand
Wealth
Expected Returns
Risk
Liquidity
Theory of Portfolio Choice
Supply and Demand in the Bond Market
Demand Curve
Supply Curve
Market Equilibrium
Supply-and-Demand Analysis

Changes in Equilibrium Interest Rates
Shifts in the Demand for Bonds
Shifts in the Supply of Bonds
CASE  Changes in the Interest Rate Due to Expected Inflation: The Fisher Effect
CASE  Changes in the Interest Rate Due to a Business Cycle Expansion
CASE  Explaining the Current Low Interest Rates in Europe, Japan,
and the United States
THE PRACTICING MANAGER  Profiting from Interest-Rate Forecasts
FOLLOWING THE FINANCIAL NEWS  Forecasting Interest Rates
SUMMARY
KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES
WEB APPENDICES

123
124
126
126
126
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128

Chapter 5 How Do Risk and Term Structure Affect Interest Rates?

129

PREVIEW
Risk Structure of Interest Rates
Default Risk
Liquidity
CASE  The Global Financial Crisis and the Baa-Treasury Spread
Income Tax Considerations
Summary
CASE  Effects of the Bush Tax Cut and the Obama Tax
Increase on Bond Interest Rates
Term Structure of Interest Rates

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12

Contents in Detail

FOLLOWING THE FINANCIAL NEWS  Yield Curves
Expectations Theory
Market Segmentation Theory
Liquidity Premium Theory
Evidence on the Term Structure
Summary
MINI-CASE  The Yield Curve as a Forecasting Tool for Inflation
and the Business Cycle
CASE  Interpreting Yield Curves, 1980–2016
THE PRACTICING MANAGER  Using the Term Structure to Forecast Interest Rates
SUMMARY
KEY TERMS

QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES



Chapter 6 Are Financial Markets Efficient?
PREVIEW
The Efficient Market Hypothesis
Rationale Behind the Hypothesis
Evidence on the Efficient Market Hypothesis
Evidence in Favor of Market Efficiency
MINI-CASE  An Exception That Proves the Rule: Raj Rajaratnam and Galleon
CASE  Should Foreign Exchange Rates Follow a Random Walk?
Evidence Against Market Efficiency
Overview of the Evidence on the Efficient Market Hypothesis
THE PRACTICING MANAGER  Practical Guide to Investing in the Stock Market
How Valuable Are Published Reports by Investment Advisers?
MINI-CASE  Should You Hire an Ape as Your Investment Adviser?
Should You Be Skeptical of Hot Tips?
Do Stock Prices Always Rise When There Is Good News?
Efficient Markets Prescription for the Investor
Why the Efficient Market Hypothesis Does Not Imply
That Financial Markets Are Efficient
CASE  What Do Stock Market Crashes Tell Us About the
Efficient Market Hypothesis?
Behavioral Finance
SUMMARY
KEY TERMS
QUESTIONS

QUANTITATIVE PROBLEMS
WEB EXERCISES




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PART THREE FUNDAMENTALS OF FINANCIAL INSTITUTIONS
Chapter 7 Why Do Financial Institutions Exist?
PREVIEW
Basic Facts About Financial Structure Throughout The World

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Contents in Detail

Transaction Costs
How Transaction Costs Influence Financial Structure
How Financial Intermediaries Reduce Transaction Costs
Asymmetric Information: Adverse Selection and Moral Hazard
The Lemons Problem: How Adverse Selection Influences
Financial Structure
Lemons in the Stock and Bond Markets
Tools to Help Solve Adverse Selection Problems
MINI-CASE  The Enron Implosion
How Moral Hazard Affects the Choice Between Debt and
Equity Contracts
Moral Hazard in Equity Contracts: The Principal–Agent Problem
Tools to Help Solve the Principal–Agent Problem
How Moral Hazard Influences Financial Structure in Debt Markets
Tools to Help Solve Moral Hazard in Debt Contracts
Summary
CASE  Financial Development and Economic Growth
MINI-CASE  The Tyranny of Collateral
CASE  Is China a Counter-Example to the Importance
of Financial Development?
Conflicts of Interest
What Are Conflicts of Interest and Why Do We Care?
Why Do Conflicts of Interest Arise?
MINI-CASE  The Demise of Arthur Andersen
MINI-CASE  Credit-Rating Agencies and the 2007–2009 Financial Crisis
What Has Been Done to Remedy Conflicts of Interest?
MINI-CASE  Has Sarbanes-Oxley Led to a Decline
in U.S. Capital Markets?
SUMMARY

KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES



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Chapter 8 Why Do Financial Crises Occur and Why Are
They So Damaging to the Economy?

206

PREVIEW
What Is a Financial Crisis?
Agency Theory and the Definition of a Financial Crisis
Dynamics of Financial Crises
Stage One: Initial Phase
Stage Two: Banking Crisis
Stage Three: Debt Deflation
CASE  The Mother of All Financial Crises: The Great Depression
Stock Market Crash
Bank Panics
Continuing Decline in Stock Prices

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14

Contents in Detail

Debt Deflation
International Dimensions
CASE  The Global Financial Crisis of 2007–2009
Causes of the 2007–2009 Financial Crisis
MINI-CASE  Collateralized Debt Obligations (CDOs)
Effects of the 2007–2009 Financial Crisis
INSIDE THE FED  Was the Fed to Blame for the Housing Price Bubble?
GLOBAL  The European Sovereign Debt Crisis
Height of the 2007–2009 Financial Crisis
SUMMARY
KEY TERMS
QUESTIONS
WEB EXERCISES

WEB REFERENCES



PART FOUR CENTRAL BANKING AND THE CONDUCT OF MONETARY POLICY



Chapter 9 Central Banks
PREVIEW
Origins of the Central Banking System
GLOBAL  Who Should Own Central Banks?
Variations in the Functions and Structures of Central Banks
The European Central Bank, the Euro System,
and the European System of Central Banks
Decision-Making Bodies of the ECB
How Monetary Policy is Conducted within the ECB
GLOBAL  The Importance of the Bundesbank within the ECB
GLOBAL  Are Non-Euro Central Banks Constrained by
Membership of the EU?
The Federal Reserve System
Difference between the ECB and the Fed
The Bank of England
GLOBAL  Brexit and the BoE
Structure of Central Banks of Larger Economies
The Bank of Canada
The Bank of Japan
The People’s Bank of China
Structure and Independence of Central Banks of
Emerging Market Economies

Central Banks and Independence
The Case for Independence
The Case Against Independence
The Trend Toward Greater Independence
SUMMARY
KEY TERMS
QUESTIONS AND PROBLEMS
WEB EXERCISES

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Contents in Detail

Chapter 10 Conduct of Monetary Policy
PREVIEW
How Fed Actions Affect Reserves in the Banking System
Open Market Operations
Discount Lending
The Market for Reserves and the Federal Funds Rate
Demand and Supply in the Market for Reserves
How Changes in the Tools of Monetary Policy Affect the Federal Funds Rate
CASE  How the Federal Reserve’s Operating Procedures Limit
Fluctuations in the Federal Funds Rate
Conventional Monetary Policy Tools
Open Market Operations
INSIDE THE FED  A Day at the Trading Desk
Discount Policy and the Lender of Last Resort
Reserve Requirements
Interest on Reserves
Nonconventional Monetary Policy Tools and Quantitative Easing
Liquidity Provision
INSIDE THE FED  Fed Lending Facilities During the Global Financial Crisis
Large-Scale Asset Purchases
Quantitative Easing Versus Credit Easing
Forward Guidance
Negative Interest Rates on Banks’ Deposits
Monetary Policy Tools of the European Central Bank
Open Market Operations
Lending to Banks
Interest on Reserves
Reserve Requirements
The Price Stability Goal and the Nominal Anchor

The Role of a Nominal Anchor
The Time-Inconsistency Problem
Other Goals of Monetary Policy
High Employment and Output Stability
Economic Growth
Stability of Financial Markets
Interest-Rate Stability
Stability in Foreign Exchange Markets
Should Price Stability Be the Primary Goal of Monetary Policy?
Hierarchical vs. Dual Mandates
Price Stability as the Primary, Long-Run Goal of Monetary Policy
GLOBAL  The European Central Bank’s Monetary Policy Strategy
Inflation Targeting
Advantages of Inflation Targeting
INSIDE THE FED  Ben Bernanke and the Federal Reserve’s
Adoption of Inflation Targeting
Disadvantages of Inflation Targeting

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16

Contents in Detail

Should Central Banks Respond to Asset-Price Bubbles?
Lessons from the Global Financial Crisis
Two Types of Asset-Price Bubbles
The Debate over Whether Central Banks Should Try to Pop Bubbles
THE PRACTICING MANAGER  Using a Fed Watcher
SUMMARY
KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES



PART FIVE FINANCIAL MARKETS

Chapter 11 The Money Markets
PREVIEW
The Money Markets Defined
Why Do We Need the Money Markets?
Money Market Cost Advantages
The Purpose of the Money Markets
Who Participates in the Money Markets?
U.S. Treasury Department
Federal Reserve System
Commercial Banks
Businesses
Investment and Securities Firms
Individuals
Money Market Instruments
Treasury Bills
CASE  Discounting the Price of Treasury Securities to Pay the Interest
MINI-CASE  Treasury Bill Auctions Go Haywire
Federal Funds
Repurchase Agreements
Negotiable Certificates of Deposit
Commercial Paper
Banker’s Acceptances
Eurodollars
GLOBAL  Ironic Birth of the Eurodollar Market
Comparing Money Market Securities
Interest Rates
Liquidity
How Money Market Securities Are Valued
SUMMARY

KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES

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Contents in Detail



Chapter 12 The Bond Market
PREVIEW

Purpose of the Capital Market
Capital Market Participants
Capital Market Trading
Types of Bonds
Treasury Notes and Bonds
Treasury Bond Interest Rates
Treasury Inflation-Protected Securities (TIPS)
Treasury STRIPS
Agency Bonds
CASE  The 2007–2009 Financial Crisis and the Bailout of Fannie
Mae and Freddie Mac
Municipal Bonds
Risk in the Municipal Bond Market
Corporate Bonds
Characteristics of Corporate Bonds
Types of Corporate Bonds
Financial Guarantees for Bonds
Oversight of the Bond Markets
Current Yield Calculation
Current Yield
Finding the Value of Coupon Bonds
Finding the Price of Semiannual Bonds
Investing in Bonds
SUMMARY
KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISE

Chapter 13 The Stock Market
PREVIEW
Investing in Stocks
Common Stock vs. Preferred Stock
How Stocks Are Sold
Computing the Price of Common Stock
The One-Period Valuation Model
The Generalized Dividend Valuation Model
The Gordon Growth Model
Price Earnings Valuation Method
How the Market Sets Security Prices
Errors in Valuation
Problems with Estimating Growth
Problems with Estimating Risk
Problems with Forecasting Dividends

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Contents in Detail

CASE  The 2007–2009 Financial Crisis and the Stock Market
CASE  The September 11 Terrorist Attack, the Enron Scandal, and the Stock Market
Stock Market Indexes
MINI-CASE  History of the Dow Jones Industrial Average
Buying Foreign Stocks
Regulation of the Stock Market
The Securities and Exchange Commission
SUMMARY
KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES



Chapter 14 The Mortgage Markets
PREVIEW

What Are Mortgages?
Characteristics of the Residential Mortgage
Mortgage Interest Rates
CASE  The Discount Point Decision
Loan Terms
Mortgage Loan Amortization
Types of Mortgage Loans
Insured and Conventional Mortgages
Fixed- and Adjustable-Rate Mortgages
Other Types of Mortgages
Mortgage-Lending Institutions
Loan Servicing
E-FINANCE  Borrowers Shop the Web for Mortgages
Secondary Mortgage Market
Securitization of Mortgages
What Is a Mortgage-Backed Security?
Types of Pass-Through Securities
Subprime Mortgages and CDOs
The Real Estate Bubble
SUMMARY
KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES



Chapter 15 The Foreign Exchange Market
PREVIEW
Foreign Exchange Market

What Are Foreign Exchange Rates?
Why Are Exchange Rates Important?

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FOLLOWING THE FINANCIAL NEWS  Foreign Exchange Rates
How Is Foreign Exchange Traded?
Exchange Rates in the Long Run
Law of One Price
Theory of Purchasing Power Parity
Why the Theory of Purchasing Power Parity Cannot

Fully Explain Exchange Rates
Factors That Affect Exchange Rates in the Long Run
Exchange Rates in the Short Run: A Supply and Demand Analysis
Supply Curve for Domestic Assets
Demand Curve for Domestic Assets
Equilibrium in the Foreign Exchange Market
Explaining Changes in Exchange Rates
Shifts in the Demand for Domestic Assets
Recap: Factors That Change the Exchange Rate
CASE  Effect of Changes in Interest Rates on
the Equilibrium Exchange Rate
CASE  Why Are Exchange Rates So Volatile?
CASE  The Dollar and Interest Rates
CASE  The Global Financial Crisis and the Dollar
THE PRACTICING MANAGER  Profiting from Foreign Exchange Forecasts
SUMMARY
KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES



Chapter 15 Appendix The Interest Parity Condition
Comparing Expected Returns on Domestic and Foreign Assets
Interest Parity Condition



Chapter 16 The International Financial System

PREVIEW
Intervention in the Foreign Exchange Market
Foreign Exchange Intervention and Reserves in the Banking System
INSIDE THE FED  A Day at the Federal Reserve Bank of New York’s
Foreign Exchange Desk
Unsterilized Intervention
Sterilized Intervention
Balance of Payments
GLOBAL  Why the Large U.S. Current Account Deficit Worries Economists
Exchange Rate Regimes in the International Financial System
Fixed Exchange Rate Regimes
How a Fixed Exchange Rate Regime Works
The Policy Trilemma
Monetary Unions

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GLOBAL  Will the Euro Survive?
Currency Boards and Dollarization
Speculative Attacks
GLOBAL  Argentina’s Currency Board
Managed Float
GLOBAL  Dollarization
CASE  The Foreign Exchange Crisis of September 1992
THE PRACTICING MANAGER  Profiting from a Foreign Exchange Crisis
CASE  How Did China Accumulate over $3 Trillion of International Reserves?
Capital Controls
Controls on Capital Outflows
Controls on Capital Inflows
The Role of the IMF
Should the IMF Be an International Lender of Last Resort?
SUMMARY
KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISE

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PART SIX THE FINANCIAL INSTITUTIONS INDUSTRY
Chapter 17Banking and the Management of Financial
Institutions
PREVIEW
The Bank Balance Sheet
Liabilities
Assets
Basic Banking
General Principles of Bank Management

Liquidity Management and the Role of Reserves
Asset Management
Liability Management
Capital Adequacy Management
THE PRACTICING MANAGER  Strategies for Managing Bank Capital
CASE  How a Capital Crunch Caused a Credit Crunch During the
Global Financial Crisis
Off-Balance-Sheet Activities
Loan Sales
Generation of Fee Income
Trading Activities and Risk Management Techniques
CONFLICTS OF INTEREST  Barings, Daiwa, Sumitomo, Société Générale, and
J.P. Morgan Chase: Rogue Traders and the Principal–Agent Problem
Measuring Bank Performance
Bank’s Income Statement
Measures of Bank Performance
Recent Trends in Bank Performance Measures

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SUMMARY
KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES



Chapter 18 Financial Regulation
PREVIEW
Asymmetric Information as a Rationale for Financial Regulation
Government Safety Net

GLOBAL  The Spread of Government Deposit Insurance
Throughout the World: Is This a Good Thing?
Types of Financial Regulation
Restrictions on Asset Holdings
Capital Requirements
Prompt Corrective Action
Financial Supervision: Chartering and Examination
GLOBAL  Where Is the Basel Accord Heading After the Global Financial Crisis?
Assessment of Risk Management
Disclosure Requirements
Consumer Protection
MINI-CASE  Mark-to-Market Accounting and the Global Financial Crisis
Restrictions on Competition
MINI-CASE  The Global Financial Crisis and Consumer
Protection Regulation
Macroprudential Versus Microprudential Supervision
E-FINANCE  Electronic Banking: New Challenges for Bank Regulation
Summary
GLOBAL  International Financial Regulation
Banking Crises Throughout the World in Recent Years
“Déjà Vu All Over Again”
The Dodd-Frank Wall Street Reform and Consumer
Protection Act of 2010
Dodd-Frank
Too-Big-to-Fail and Future Regulation
What Can Be Done About the Too-Big-to-Fail Problem?
Other Issues for Future Regulation
SUMMARY
KEY TERMS
QUESTIONS

QUANTITATIVE PROBLEMS
WEB EXERCISES
WEB APPENDIX



Chapter 19 Banking Industry: Structure and Competition
PREVIEW
Historical Development of the Banking System
Multiple Regulatory Agencies

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Financial Innovation and the Growth of the Shadow Banking System
Responses to Changes in Demand Conditions: Interest Rate Volatility
Responses to Changes in Supply Conditions: Information Technology
E-FINANCE  Will “Clicks” Dominate “Bricks” in the Banking Industry?
E-FINANCE  Why Are Scandinavians So Far Ahead of Americans
in Using Electronic Payments and Online Banking?
E-FINANCE  Are We Headed for a Cashless Society?
Securitization and the Shadow Banking System
Avoidance of Existing Regulations
MINI-CASE  Bruce Bent and the Money Market Mutual Fund Panic of 2008
THE PRACTICING MANAGER  Profiting from a New Financial Product:
A Case Study of Treasury Strips
Financial Innovation and the Decline of Traditional Banking
Structure of the U.S. Banking Industry
Restrictions on Branching
Response to Branching Restrictions
Bank Consolidation and Nationwide Banking
E-FINANCE  Information Technology and Bank Consolidation
The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994
What Will the Structure of the U.S. Banking Industry Look Like in the Future?
Are Bank Consolidation and Nationwide Banking Good Things?
Separation of the Banking and Other Financial Service Industries
Erosion of Glass-Steagall
The Gramm-Leach-Bliley Financial Services Modernization Act of 1999:

Repeal of Glass-Steagall
Implications for Financial Consolidation
MINI-CASE  The Global Financial Crisis and the Demise of Large, Free-Standing
Investment Banks
Separation of Banking and Other Financial Services Industries
Throughout the World
Thrift Industry
Savings and Loan Associations
Mutual Savings Banks
Credit Unions
International Banking
Eurodollar Market
Structure of U.S. Banking Overseas
Foreign Banks in the United States
SUMMARY
KEY TERMS
QUESTIONS
WEB EXERCISES



Chapter 20 The Mutual Fund Industry
PREVIEW
The Growth of Mutual Funds
The First Mutual Funds

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Benefits of Mutual Funds
Ownership of Mutual Funds
Mutual Fund Structure
Open- Versus Closed-End Funds
CASE  Calculating a Mutual Fund’s Net Asset Value
Organizational Structure
Investment Objective Classes
Equity Funds
Bond Funds
Hybrid Funds
Money Market Funds
Index Funds
Fee Structure of Investment Funds
Regulation of Mutual Funds
Hedge Funds

MINI-CASE  The Long Term Capital Debacle
Conflicts of Interest in the Mutual Fund Industry
Sources of Conflicts of Interest
Mutual Fund Abuses
CONFLICTS OF INTEREST  Many Mutual Funds Are Caught Ignoring
Ethical Standards
CONFLICTS OF INTEREST  SEC Survey Reports Mutual Fund Abuses Widespread
Government Response to Abuses
SUMMARY
KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES



Chapter 21 Insurance Companies and Pension Funds
PREVIEW
Insurance Companies
Fundamentals of Insurance
Adverse Selection and Moral Hazard in Insurance
Selling Insurance
MINI-CASE  Insurance Agent: The Customer’s Ally
Growth and Organization of Insurance Companies
Types of Insurance
Life Insurance
Health Insurance
Property and Casualty Insurance
Insurance Regulation
THE PRACTICING MANAGER  Insurance Management

Screening
Risk-Based Premium
Restrictive Provisions

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Prevention of Fraud
Cancellation of Insurance
Deductibles
Coinsurance
Limits on the Amount of Insurance
Summary
Credit Default Swaps
CONFLICTS OF INTEREST  The AIG Blowup
Pensions
CONFLICTS OF INTEREST  The Subprime Financial Crisis and
the Monoline Insurers
Types of Pensions
Defined-Benefit Pension Plans
Defined-Contribution Pension Plans
Private and Public Pension Plans
MINI-CASE  Power to the Pensions
Regulation of Pension Plans
Employee Retirement Income Security Act
Individual Retirement Plans
The Future of Pension Funds
SUMMARY
KEY TERMS
QUESTIONS
QUANTITATIVE PROBLEMS
WEB EXERCISES



Chapter 22Investment Banks, Security Brokers and
Dealers, and Venture Capital Firms

PREVIEW
Investment Banks
Background
Underwriting Stocks and Bonds
Equity Sales
Mergers and Acquisitions
Securities Brokers and Dealers
Brokerage Services
Securities Dealers
MINI-CASE  Example of Using the Limit-Order Book
Regulation of Securities Firms
Relationship Between Securities Firms and Commercial Banks
Private Equity Investment
Venture Capital Firms
E-FINANCE  Venture Capitalists Lose Focus with Internet Companies
Private Equity Buyouts
Advantages to Private Equity Buyouts
Life Cycle of the Private Equity Buyout

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