BANK MANAGEMENT
1. Bank balance sheets and income statements ............................................................................................................... 2
2. Business models and financial landscape ..................................................................................................................... 8
3. Why do banks exist? ................................................................................................................................................... 15
4. Regulation ................................................................................................................................................................... 24
5. Interest rate risk .......................................................................................................................................................... 35
6. Guest lecture NBB: on-site and off-site regulation ..................................................................................................... 47
7. Credit risk .................................................................................................................................................................... 52
8. Market, operational and liquidity risk ......................................................................................................................... 62
1
,1. Bank balance sheets and income statements
Financial intermediation
Economics Finance
- Study of the allocation of scarce resources - Studies the allocation of scarce financial
resources
- Need for finacial resources: financial
intermediation
Allocation of financial resources
- From those with surpluses (and no use)
- To those with need and productive use
- Directly vs. indirectly
Financial intermediation
Direct finance
Direct financial intermediation
- Financial markets are a tool to get money from lenders to borrowers
- Bonds: you lend money to a company
- Stocks: you share in the profit, because you own part of the company
Indirect financial intermediation
- Financial intermediaries pull money from lenders and invest this in the financial markets on your behalf
o Lenders pay the financial intermediaries a premium
- Financial intermediaries pull money from lenders and give loans to borrowers
What are banks?
- Financial service providers that act as intermediaries between individuals/businesses/governments that have
money (depositors) and those who need money (borrowers)
What services do banks provide?
- Save our money
o Store of wealth: savings accounts
- Use our money
o Payment methods: checking account, debit/credit card, banccontact, mobile banking, currency
exchange, …
- Source of credit
2
, o Mortgage, personal loan, car loan, student loan, business loan, …
- Invest (via bank or associated entity: e.g. insurance company)
o Term accounts, bonds, equities, pension saving, funds
- Insurance (via bank or associated entity: e.g. insurance company)
o Car insurance, life insurance, family insurance, travel insurance, …
How do banks make money?
- Mainly based on intermediation
o (Net) interest income
o Non-interest income
- Reflected in the BS and income statement
Intermediation service provided by banks
- Banks have interest income paid by borrowers and pay interest
to people with savings accounts
o Difference = income for the bank
- Intermediation margin = net interest income
o Interest received from loans – interest paid on deposits
o Bulk of income from banks
- Deposit insurance works because you believe in it
o Belgium: insurance up to €100,000
Balance sheet bank
Assets Liabilities
What you own What you owe
= loans = debt (deposits) + equity
- Difference between assets and liabilities = equity
Income statement bank
Revenue
- Costs
= Earnings before taxes
- Taxes
= Net income
A simple bank
Interest income Interest received from borrowers: based on loans
- Interest expense Interest paid to depositors
= Net interest income
+ Non-interest income
- Non-interest expense Staff, risk department, computer systems, salespeople, loan officers, …
= Total income
Bank balance sheet
Funded by financial liabilities
- Deposits
- Bonds
- Subordinated debt
- Equity capital
o Equity is a very small part of a bank’s BS (5 to 6%)
3
,Assets are also (mainly) financial
- Cash
- Loans
- Securities
- Fixed assets
Income (mainly) based on intermediation
- (Net) interest income
- Non-interest income
Difference between banks and normal firms
- Banks do not have real assets, but financial assets, mainly in the form of loans
Liabilities: Main source of funding are deposits
Sight deposits + demandable on sight
- no interest rates
Saving deposits + demandable on sight
- low interest rates
Term deposits + higher interest rates
- non-demandable for a fixed term
- Wholesale/corporate deposits
o Big corporations’ bank accounts filled with excess money
- Interbank deposits
o Banks giving loans to other banks, when they have excess liquidity
Deposits
- Stable source of income for banks
Financial stability report NBB
- Bulk of deposits = deposits by households
- Non-financial corporations
- Deposits: interest expense is paid by the bank
Bank deposits of Belgian households and non-financial corporations
- Households: a lot of money in savings deposits
o Sight and term deposits are much less
- 2023: savings deposits of banks declined
o Banks were offering too little interest on savings
accounts, by launching a staatsbon/government
bond the banks were stimulated to increase
their interest rate on savings accounts
o Consequence: a lot of people withdrew money
from their savings accounts to invest in the
government bond
Insured deposits
- Up to €100,000
Uninsured deposits
- Everything above €100,000
- More risky à higher interest rate
4
,Equity
Capital buffer
- Quite small for banks (5%)
- Defense against non-performing assets
o Bank = bankrupt when equity is not enough as a defense against non-performing assets
- Regulation (Basel III) concerned with maintaining high enough equity buffers
o If banks fail all at the same time, government would be in trouble because of the deposit insurance
o Banks are heavily regulated
Source of equity is diverse
Publicly traded (shares) Shares floating bought by people
KBC (only public bank in Belgium)
Government owned Belfius
- Going towards private owned in the future
- Reason: the government is the main shareholder, but needs more money
than just the dividends, by selling part of their shares, the government will
be able to finance their expenses
Private owned Argenta
Foreign owned BNP
Cooperative People don’t own shares, but certificates
Crelan
Assets
- Mainly loans to households (25% of balance sheet)
- Loans to public sector
o Belfius is the only Bank that has loans to public sector/government
- Banks are exposed to the real estate market
o 27% of their assets are mortgage loans
- Breakdown of assets: slide 31
Loans
- Primary income source
- Loan
o Liability for individual or corporation receiving it ó Asset for a bank
- Less liquid than other assets, higher probability of default
o Highest return à on loans
- Mortgages
o ¼ of banks’ BS
o Not very risky for banks (because of collateral)
§ Housing prices in Belgium are more or less stable, so collateral keeps its value
o Results in a nice profit
o Captive products
§ If you have a mortgage with a bank, you’re much more likely to have other products with that
bank as well (e.g. life insurance products together with a mortgage, deposit account, …)
- Consumer credit
- Business loans
- Credit lines
- Interbank loans
- (local) government loans (Belfius still does this)
5
, Reserves (Cash)
- Very liquid assets
- Doesn’t lead to a return for the bank
- Reasons to hold reserves
o Reserve requirements
o Excess reserves
§ Most liquid of all bank assets
§ Necessary to return deposits to customers
Securities
- Important income-earning asset
- Some very liquid and not so risky
o Government bonds
§ Can be easily transformed into cash (Necessary when bank run arises)
§ Low risk à low interest rate
o Treasury notes (maturity <10 years)
o Treasury bonds (maturity >10 years)
- Some more risky, but also higher return
o Corporate bonds
§ Banks only hold investment grade corporate bonds (AAA/AA rating)
o (Equities: prop trading with bank’s own assets)
Fixed assets
- Branch network (banks offer services that could only be done in the branches)
o Brick and mortar (physical and online)
o Role used to be to attract new clients (business), wire transfer money
o Less necessary due to internet banking
§ Neobanks: e.g. Revolut
• Only offer online services, lower costs because no branches
o Interest rates on deposit accounts can be increased/interest rates on loans can
be lower
o In combination with fixed high costs, banks are closing down branches
§ If the branches are not profitable enough, banks will do cost-benefit analyses per branch
- Slide 35
o Today: around 3,000 branches in Belgium (compared to +16,000 in 1994)
o Number of new branches being opened is lower than the closing of branches
§ Net openings is negative
o Batopin cash points
§ Collaboration of multiple banks to offer ATMs (automated teller machines)
Bank income statement
- Income is derived from
o Selling liabilities with one set of characteristics and using the proceeds to buy assets with a different set
of characteristics
o 3 activities
§ Lending
§ Investing in other financial assets yielding a return
§ Providing services (fee income)
• Funds, wealth management, private banking, …
- Expenses
o Funding costs (deposits and non-deposit liabilities)
§ Coco: contingent convertible debt
6
1. Bank balance sheets and income statements ............................................................................................................... 2
2. Business models and financial landscape ..................................................................................................................... 8
3. Why do banks exist? ................................................................................................................................................... 15
4. Regulation ................................................................................................................................................................... 24
5. Interest rate risk .......................................................................................................................................................... 35
6. Guest lecture NBB: on-site and off-site regulation ..................................................................................................... 47
7. Credit risk .................................................................................................................................................................... 52
8. Market, operational and liquidity risk ......................................................................................................................... 62
1
,1. Bank balance sheets and income statements
Financial intermediation
Economics Finance
- Study of the allocation of scarce resources - Studies the allocation of scarce financial
resources
- Need for finacial resources: financial
intermediation
Allocation of financial resources
- From those with surpluses (and no use)
- To those with need and productive use
- Directly vs. indirectly
Financial intermediation
Direct finance
Direct financial intermediation
- Financial markets are a tool to get money from lenders to borrowers
- Bonds: you lend money to a company
- Stocks: you share in the profit, because you own part of the company
Indirect financial intermediation
- Financial intermediaries pull money from lenders and invest this in the financial markets on your behalf
o Lenders pay the financial intermediaries a premium
- Financial intermediaries pull money from lenders and give loans to borrowers
What are banks?
- Financial service providers that act as intermediaries between individuals/businesses/governments that have
money (depositors) and those who need money (borrowers)
What services do banks provide?
- Save our money
o Store of wealth: savings accounts
- Use our money
o Payment methods: checking account, debit/credit card, banccontact, mobile banking, currency
exchange, …
- Source of credit
2
, o Mortgage, personal loan, car loan, student loan, business loan, …
- Invest (via bank or associated entity: e.g. insurance company)
o Term accounts, bonds, equities, pension saving, funds
- Insurance (via bank or associated entity: e.g. insurance company)
o Car insurance, life insurance, family insurance, travel insurance, …
How do banks make money?
- Mainly based on intermediation
o (Net) interest income
o Non-interest income
- Reflected in the BS and income statement
Intermediation service provided by banks
- Banks have interest income paid by borrowers and pay interest
to people with savings accounts
o Difference = income for the bank
- Intermediation margin = net interest income
o Interest received from loans – interest paid on deposits
o Bulk of income from banks
- Deposit insurance works because you believe in it
o Belgium: insurance up to €100,000
Balance sheet bank
Assets Liabilities
What you own What you owe
= loans = debt (deposits) + equity
- Difference between assets and liabilities = equity
Income statement bank
Revenue
- Costs
= Earnings before taxes
- Taxes
= Net income
A simple bank
Interest income Interest received from borrowers: based on loans
- Interest expense Interest paid to depositors
= Net interest income
+ Non-interest income
- Non-interest expense Staff, risk department, computer systems, salespeople, loan officers, …
= Total income
Bank balance sheet
Funded by financial liabilities
- Deposits
- Bonds
- Subordinated debt
- Equity capital
o Equity is a very small part of a bank’s BS (5 to 6%)
3
,Assets are also (mainly) financial
- Cash
- Loans
- Securities
- Fixed assets
Income (mainly) based on intermediation
- (Net) interest income
- Non-interest income
Difference between banks and normal firms
- Banks do not have real assets, but financial assets, mainly in the form of loans
Liabilities: Main source of funding are deposits
Sight deposits + demandable on sight
- no interest rates
Saving deposits + demandable on sight
- low interest rates
Term deposits + higher interest rates
- non-demandable for a fixed term
- Wholesale/corporate deposits
o Big corporations’ bank accounts filled with excess money
- Interbank deposits
o Banks giving loans to other banks, when they have excess liquidity
Deposits
- Stable source of income for banks
Financial stability report NBB
- Bulk of deposits = deposits by households
- Non-financial corporations
- Deposits: interest expense is paid by the bank
Bank deposits of Belgian households and non-financial corporations
- Households: a lot of money in savings deposits
o Sight and term deposits are much less
- 2023: savings deposits of banks declined
o Banks were offering too little interest on savings
accounts, by launching a staatsbon/government
bond the banks were stimulated to increase
their interest rate on savings accounts
o Consequence: a lot of people withdrew money
from their savings accounts to invest in the
government bond
Insured deposits
- Up to €100,000
Uninsured deposits
- Everything above €100,000
- More risky à higher interest rate
4
,Equity
Capital buffer
- Quite small for banks (5%)
- Defense against non-performing assets
o Bank = bankrupt when equity is not enough as a defense against non-performing assets
- Regulation (Basel III) concerned with maintaining high enough equity buffers
o If banks fail all at the same time, government would be in trouble because of the deposit insurance
o Banks are heavily regulated
Source of equity is diverse
Publicly traded (shares) Shares floating bought by people
KBC (only public bank in Belgium)
Government owned Belfius
- Going towards private owned in the future
- Reason: the government is the main shareholder, but needs more money
than just the dividends, by selling part of their shares, the government will
be able to finance their expenses
Private owned Argenta
Foreign owned BNP
Cooperative People don’t own shares, but certificates
Crelan
Assets
- Mainly loans to households (25% of balance sheet)
- Loans to public sector
o Belfius is the only Bank that has loans to public sector/government
- Banks are exposed to the real estate market
o 27% of their assets are mortgage loans
- Breakdown of assets: slide 31
Loans
- Primary income source
- Loan
o Liability for individual or corporation receiving it ó Asset for a bank
- Less liquid than other assets, higher probability of default
o Highest return à on loans
- Mortgages
o ¼ of banks’ BS
o Not very risky for banks (because of collateral)
§ Housing prices in Belgium are more or less stable, so collateral keeps its value
o Results in a nice profit
o Captive products
§ If you have a mortgage with a bank, you’re much more likely to have other products with that
bank as well (e.g. life insurance products together with a mortgage, deposit account, …)
- Consumer credit
- Business loans
- Credit lines
- Interbank loans
- (local) government loans (Belfius still does this)
5
, Reserves (Cash)
- Very liquid assets
- Doesn’t lead to a return for the bank
- Reasons to hold reserves
o Reserve requirements
o Excess reserves
§ Most liquid of all bank assets
§ Necessary to return deposits to customers
Securities
- Important income-earning asset
- Some very liquid and not so risky
o Government bonds
§ Can be easily transformed into cash (Necessary when bank run arises)
§ Low risk à low interest rate
o Treasury notes (maturity <10 years)
o Treasury bonds (maturity >10 years)
- Some more risky, but also higher return
o Corporate bonds
§ Banks only hold investment grade corporate bonds (AAA/AA rating)
o (Equities: prop trading with bank’s own assets)
Fixed assets
- Branch network (banks offer services that could only be done in the branches)
o Brick and mortar (physical and online)
o Role used to be to attract new clients (business), wire transfer money
o Less necessary due to internet banking
§ Neobanks: e.g. Revolut
• Only offer online services, lower costs because no branches
o Interest rates on deposit accounts can be increased/interest rates on loans can
be lower
o In combination with fixed high costs, banks are closing down branches
§ If the branches are not profitable enough, banks will do cost-benefit analyses per branch
- Slide 35
o Today: around 3,000 branches in Belgium (compared to +16,000 in 1994)
o Number of new branches being opened is lower than the closing of branches
§ Net openings is negative
o Batopin cash points
§ Collaboration of multiple banks to offer ATMs (automated teller machines)
Bank income statement
- Income is derived from
o Selling liabilities with one set of characteristics and using the proceeds to buy assets with a different set
of characteristics
o 3 activities
§ Lending
§ Investing in other financial assets yielding a return
§ Providing services (fee income)
• Funds, wealth management, private banking, …
- Expenses
o Funding costs (deposits and non-deposit liabilities)
§ Coco: contingent convertible debt
6
