Unit 1: The financial system
Section 1: The actors
Haves and havenots
• Haves: possess capita land and can lend it out (lenders)
o Individuals
• Havenots: have more needs than money and they will have to raise capital
(borrowers)
o The government
o Corporates (work with the money of others)
o Banks (everything that comes in goes out)
• The haves give what they have extra to the havenots with taxes for example
Households
• Household balance sheet gives an overview of the assets and the liabilities of a single
household
• Net wealth = assets – liabilities (what you have – what you must give away)
• Balance sheet Households
o Real assets: tangible assets, things you can hold (cars, houses)
o Financial assets: intangible assets that represent a claim to future cash, things
you cannot hold (stocks, mutual funds, cash)
o Intangible assets: derive value from a legal claim to some future benefit
Asset Classes
• Traditional
o Common stock
o Bonds
o Cash
• Alternative
o Real estate (financialize asset and get money from the loan)
o Commodities (dangerous because of high price)
o Hedge funds
o Venture capital
o Currencies
• Liabilities
o Mortgage loans
o Consumer loans
o Tax debt
1
,Growth drivers in Net wealth
• Value changes all the time
• Where does your net wealth come from?
o Buy a car for 100 and sell it for 200 → your net wealth is 100
• Net-income from labour
• When market grows your wealth grows, but when there is a big crash than your
wealth goes down
• “Assets put money in your pocket, whether you work or not, and liabilities take money
from your pocket.” Robert Kiyosaki
Wealth creation
• Poor people work and get a little amount of money and they have to buy food, house
so everything they earned they spend again
• Middle class are poor families with a home. They earn money and there is some left
over, and they pay a house with a mortgage loan, so they have to pay it back for the
next 20 years
• Rich have assets on their income. They get more than just their salary. They have
appartements they rent, stocks
• Wealth inequality: Wealth isn’t divided fair all over the world
o Poverty in Africa
o Wealth in Europe, VS
• Global wealth pyramid
o As a banker it is more interested to be working with the 1% wealthiest people
• Final thoughts
o Households own all the assets, because they are in contact with everyone and
everything, but this means they also have a lot of risks
2
,Section 2: How do the Balance Sheets of Other Actors look like?
Corporates (companies)
• Balance sheets
o Liabilities (right)
▪ Equity: claim of shareholders, we give money to company, and we get
something in return (e.g.: when we sell it)
▪ Debt: everything the company lent, but when you loan you also have
to pay extra
=> entrepreneurs: you work with money of others so that your money
is safe, hopes that the cost on the loan is less than the return
investment (= leverage, with little money controlling much more)
o Assets (left)
▪ Fixed assets: a long-term commitment
▪ Current assets:
Gearing
• ROE: return on equity → important for shareholders
• ROA: return on assets → the money you get with all the money you use
ROE = ROA x LM
• Gearing ratio: ratio between long-term debt and equity (Assets= 300, Equity= 100,
Debt= 200 so the ratio = 200/100 = 2)
• Asset equity: 300/100= 3
Financial sector: BANK
• They have more debts than equity, because they give your money to others
for the bank is your money a liability and for you it is an asset
• Trading book: asset that the bank owns for trading, no intention keeping it for a long-
term
• Banking book: granting loans
Banks want to turn deposits in a loan
• Bond portfolio: when we can’t put it in loans, we put it in bonds
Financial sector: MUTUAL FUND
• He is in charge of your investments; client gives money, and the mutual fund gives a
certificate, and he is in charge of buying things for you so that you don’t have to do it
yourself
Financial sector: INSURANCE COMPANIES
• Casualty insurance (they pay you pack when you need it)
• They invest your money in the insurance company, and they will use it in some cases
The Government
• Equity: is negative because debt > liabilities → not a big problem because at the end
the householders pay it off with taxes
• Liabilities: debt
• Assets: not a lot (little amounts)
3
,Section 3: The financial system
Importance
− Economic growth is linked to financial development → you can do things with money
− Role is to facilitate production, employment, and consumption
− Resources flow to their most efficient uses
You can do things when you have money. You can start your business
with a loan and someone else wants to invest in you
• Safers = haves
borrowers = have-nots
o Direct financing: from parents to child (you bought a car and your parents
paid half and you have to pay them back)
o Semi-direct financing: When there is someone in between that helps in the
transaction there is always a FEE, so you don’t give 100 and get 100, but you
get 95
o Indirect financing: haves put their money at the bank at the liability side and
the bank gives a loan to the have-nots from the asset side, have and have-
nots don’t know each other
• Shadow banking: financial activities where you give credits to others without the
normal legislation (you don’t have the “safety” of the bank)
Section 4: Role of the Government
Should they interfere or not? Yes, they have to interfere.
• Regulations
o Disclosure regulation:
o Market conduct regulation:
o Financial institution regulation:
o Restrictions on foreign participants:
• Bail out banks that go bankrupted
• Influence markets through monetary policy
• Act as financial intermediary
Section 5: Review questions
It is a big system where they have, and haven-nots are helping each other. The one is making
it able to invest and get your dream with the others giving you the money
4
,Unit 2: Fixed income markets
Debt instruments → gift economies (people give things to people: now you own me
something, whit a little bit of interest)
Oldest source: stone pillar of Hammurabi (in there: legal text 1780BC): interest of 20%
➔ interests are very old
Loan book → lowel from one person to another
Section 1: Interest Rates
Interest rates = plural → multidimensional thing → hard to capture
Modeling in mathematic way → complex
Interest rate = the price of money
• You have to pay a little bit more for money
• Price to rent money
For economists
• Income: consumption or postpone consumption
• Interest rates = the reward for the lender to postpone consumption
EX: 2.34%
Basis points
• You have to be careful with percentages
• Percentage points in 100 → basis points
• 2.34% → 2 percentage points and 34 basis points
How much interest is the lender to charge you?
• Fair if banks charge everyone the same interest?
• =/ how financial markets work
• Credit risk: the likely that you don’t get your money back
• Maturity of dept: in a horizon of 2 years, there is less uncertainty than a horizon of
20 years
• FM = continuous spectrum → different interest rate for every maturity and every
creditor
Visualize
Term structure of interest rates
• Something what a CB is publishing
• Every day another graph, apart for f.e. ‘the Belgian government’
• Y-as: what the interest rates is for that particular thing on that day
5
, AAA rated bonds
• The best of the best
• The best bonds available
• Less than half a percent over a period of 20 years
• Very unlikely
• Long term interest rates are higher than short term
• If STIR is increasing very fast → curve becomes flat or even might become downer
o = bad news for the economy
o CB lifting STIR → spill over the LTIR
o Interest rates are increasing → taking out credit will become more expensive
o Less people are going to take credit → less people are going to invest → less
people are going to buy → break on the economy
• AAA AA A BBB BB B CCC CC C
o Rate category
o AAA is better, further to the right → become worse
o AAA AA A BBB
▪ Investment rate → relatively good bonds
o BB B CCC
▪ Much more speculative
o If the credit quality deteriorates, that the market charge extra premia for that
How does an interest rate come alive?
• Demand and supply for credit
• Rules are the same
• Demand high → IR increase
• A lot of supply → IR will be lower
• Risk free IR → price of postponing consumption
• IR on loans are pretty close to risk free, but it cannot be totally risk free
6
Section 1: The actors
Haves and havenots
• Haves: possess capita land and can lend it out (lenders)
o Individuals
• Havenots: have more needs than money and they will have to raise capital
(borrowers)
o The government
o Corporates (work with the money of others)
o Banks (everything that comes in goes out)
• The haves give what they have extra to the havenots with taxes for example
Households
• Household balance sheet gives an overview of the assets and the liabilities of a single
household
• Net wealth = assets – liabilities (what you have – what you must give away)
• Balance sheet Households
o Real assets: tangible assets, things you can hold (cars, houses)
o Financial assets: intangible assets that represent a claim to future cash, things
you cannot hold (stocks, mutual funds, cash)
o Intangible assets: derive value from a legal claim to some future benefit
Asset Classes
• Traditional
o Common stock
o Bonds
o Cash
• Alternative
o Real estate (financialize asset and get money from the loan)
o Commodities (dangerous because of high price)
o Hedge funds
o Venture capital
o Currencies
• Liabilities
o Mortgage loans
o Consumer loans
o Tax debt
1
,Growth drivers in Net wealth
• Value changes all the time
• Where does your net wealth come from?
o Buy a car for 100 and sell it for 200 → your net wealth is 100
• Net-income from labour
• When market grows your wealth grows, but when there is a big crash than your
wealth goes down
• “Assets put money in your pocket, whether you work or not, and liabilities take money
from your pocket.” Robert Kiyosaki
Wealth creation
• Poor people work and get a little amount of money and they have to buy food, house
so everything they earned they spend again
• Middle class are poor families with a home. They earn money and there is some left
over, and they pay a house with a mortgage loan, so they have to pay it back for the
next 20 years
• Rich have assets on their income. They get more than just their salary. They have
appartements they rent, stocks
• Wealth inequality: Wealth isn’t divided fair all over the world
o Poverty in Africa
o Wealth in Europe, VS
• Global wealth pyramid
o As a banker it is more interested to be working with the 1% wealthiest people
• Final thoughts
o Households own all the assets, because they are in contact with everyone and
everything, but this means they also have a lot of risks
2
,Section 2: How do the Balance Sheets of Other Actors look like?
Corporates (companies)
• Balance sheets
o Liabilities (right)
▪ Equity: claim of shareholders, we give money to company, and we get
something in return (e.g.: when we sell it)
▪ Debt: everything the company lent, but when you loan you also have
to pay extra
=> entrepreneurs: you work with money of others so that your money
is safe, hopes that the cost on the loan is less than the return
investment (= leverage, with little money controlling much more)
o Assets (left)
▪ Fixed assets: a long-term commitment
▪ Current assets:
Gearing
• ROE: return on equity → important for shareholders
• ROA: return on assets → the money you get with all the money you use
ROE = ROA x LM
• Gearing ratio: ratio between long-term debt and equity (Assets= 300, Equity= 100,
Debt= 200 so the ratio = 200/100 = 2)
• Asset equity: 300/100= 3
Financial sector: BANK
• They have more debts than equity, because they give your money to others
for the bank is your money a liability and for you it is an asset
• Trading book: asset that the bank owns for trading, no intention keeping it for a long-
term
• Banking book: granting loans
Banks want to turn deposits in a loan
• Bond portfolio: when we can’t put it in loans, we put it in bonds
Financial sector: MUTUAL FUND
• He is in charge of your investments; client gives money, and the mutual fund gives a
certificate, and he is in charge of buying things for you so that you don’t have to do it
yourself
Financial sector: INSURANCE COMPANIES
• Casualty insurance (they pay you pack when you need it)
• They invest your money in the insurance company, and they will use it in some cases
The Government
• Equity: is negative because debt > liabilities → not a big problem because at the end
the householders pay it off with taxes
• Liabilities: debt
• Assets: not a lot (little amounts)
3
,Section 3: The financial system
Importance
− Economic growth is linked to financial development → you can do things with money
− Role is to facilitate production, employment, and consumption
− Resources flow to their most efficient uses
You can do things when you have money. You can start your business
with a loan and someone else wants to invest in you
• Safers = haves
borrowers = have-nots
o Direct financing: from parents to child (you bought a car and your parents
paid half and you have to pay them back)
o Semi-direct financing: When there is someone in between that helps in the
transaction there is always a FEE, so you don’t give 100 and get 100, but you
get 95
o Indirect financing: haves put their money at the bank at the liability side and
the bank gives a loan to the have-nots from the asset side, have and have-
nots don’t know each other
• Shadow banking: financial activities where you give credits to others without the
normal legislation (you don’t have the “safety” of the bank)
Section 4: Role of the Government
Should they interfere or not? Yes, they have to interfere.
• Regulations
o Disclosure regulation:
o Market conduct regulation:
o Financial institution regulation:
o Restrictions on foreign participants:
• Bail out banks that go bankrupted
• Influence markets through monetary policy
• Act as financial intermediary
Section 5: Review questions
It is a big system where they have, and haven-nots are helping each other. The one is making
it able to invest and get your dream with the others giving you the money
4
,Unit 2: Fixed income markets
Debt instruments → gift economies (people give things to people: now you own me
something, whit a little bit of interest)
Oldest source: stone pillar of Hammurabi (in there: legal text 1780BC): interest of 20%
➔ interests are very old
Loan book → lowel from one person to another
Section 1: Interest Rates
Interest rates = plural → multidimensional thing → hard to capture
Modeling in mathematic way → complex
Interest rate = the price of money
• You have to pay a little bit more for money
• Price to rent money
For economists
• Income: consumption or postpone consumption
• Interest rates = the reward for the lender to postpone consumption
EX: 2.34%
Basis points
• You have to be careful with percentages
• Percentage points in 100 → basis points
• 2.34% → 2 percentage points and 34 basis points
How much interest is the lender to charge you?
• Fair if banks charge everyone the same interest?
• =/ how financial markets work
• Credit risk: the likely that you don’t get your money back
• Maturity of dept: in a horizon of 2 years, there is less uncertainty than a horizon of
20 years
• FM = continuous spectrum → different interest rate for every maturity and every
creditor
Visualize
Term structure of interest rates
• Something what a CB is publishing
• Every day another graph, apart for f.e. ‘the Belgian government’
• Y-as: what the interest rates is for that particular thing on that day
5
, AAA rated bonds
• The best of the best
• The best bonds available
• Less than half a percent over a period of 20 years
• Very unlikely
• Long term interest rates are higher than short term
• If STIR is increasing very fast → curve becomes flat or even might become downer
o = bad news for the economy
o CB lifting STIR → spill over the LTIR
o Interest rates are increasing → taking out credit will become more expensive
o Less people are going to take credit → less people are going to invest → less
people are going to buy → break on the economy
• AAA AA A BBB BB B CCC CC C
o Rate category
o AAA is better, further to the right → become worse
o AAA AA A BBB
▪ Investment rate → relatively good bonds
o BB B CCC
▪ Much more speculative
o If the credit quality deteriorates, that the market charge extra premia for that
How does an interest rate come alive?
• Demand and supply for credit
• Rules are the same
• Demand high → IR increase
• A lot of supply → IR will be lower
• Risk free IR → price of postponing consumption
• IR on loans are pretty close to risk free, but it cannot be totally risk free
6
