STUDY UNIT 2: THE ROLE OF BANKS INTHE SOUTH AFRICAN FINANCIAL SYSTEM

2.1 How do Banks create Money?

Define money and the components (C and D) that it consists of Explain the quantity theory of money briefly Explain how money is created when banks provide credit by referring to the balance sheet of the bank Briefly define monetary policy Explain what determines the amount of currency in the economy Explain who supplies D and what determines the amount supplied Define a Cheque and explain why it is not money Explain what the reserve ratio is Explain how banks create money by extending loans and creating deposits for the amount of the loans Name the factors that will play a role in determining the size of demand deposits, and explain how each will affect the total amount of demand deposits How banks create Money When a bank provides a loan to a customer, it creates a deposit for the amount of that loan in the name of the customer and payments can then be made from this deposit. Therefore banks do not only transfer deposits that they have received from surplus units to deficit units; they create a new deposit equal to the amount of the loan account that they have created, and this deposit forms part of the money supply, therefore banks create money.

2.2 The Role of Banks and their Income? Besides creating money, banks also act as intermediaries, i.e. channel funds from surplus to deficit units, and provide payment services
Explain the role of banks as intermediaries Explain the role of banks as payment service providers Distinguish between intra-bank transfers and inter-bank transfers Explain the term clearing bank Distinguish between the net settlement method and the gross settlement method and know which method is employed in South Africa Distinguish between non-interest income and net interest income and explain each term clearly

2.3 The Mismatch between the Assets and Liabilities of Banks

You must understand what is meant when we say there is mismatch between the assets and liabilities of banks Understand that deposits are liabilities to banks and that they are usually short term in nature, and what this means Understand that loans are assets to banks and that they are usually longer term, and what this means Define and discuss the two most important types of risk that bank are exposed to Explain what the concept a run on a bank means and the implications of such a run

2.4 Regulation if Banks

Explain what we mean when we say that it is necessary to have confidence in the integrity of the financial system Name the party responsible for the regulation and supervision of banks Discuss the minimum capital requirements, capital adequacy ratio and statutory liquid assets requirements prescribed by the Banks Ac

Distinguish between credit risk, market risk and operational risk. Credit risk is the risk that a banks lenders will not repay their loans Discuss the cash reserve requirement prescribed by the South African Reserve Bank Act Understand the implications of each of the other Acts that govern the banking system (you do not have to be able to list these Acts but should know how they govern the banks) 2.5 The Role of the South African Reserve Bank What is the current mission of the SARB is and how it has changed in the recent past Which matters are the SARB empowered to take decisions on independently and what its relationship with the government Understand the role that the SARB plays concerning financial stability The structure of the SARB Describe the roles played by the Monetary Policy Committee and the Financial Stability Committee List the Four Basic Functions of the SARB are:

Separate functions of the SARB that you need to be able to discuss are (a)Monetary policy in an inflation targeting framework (b) Prudential supervision of banks and the financial system (c) The role of the SARB in the payment system (d) Services to the government (e) Custodianship of foreign reserves (f) Issuing of banknotes and coin (g) Collection and interpretation of economic data and research (h) Functions of the subsidiaries of the SARB What the liquidity deficit of the banking sector is and how it comes about

(a)

E.g. page 21 24 (SG) Monetary Policy What is the operational variable of monetary policy in South Africa Describe the framework within which monetary policy is applied in South Africa

Creating a money market deficit Study Page 25 27(SG) Financing the money market deficit Study page 27 29 (b) Prudential supervision of banks and the financial system Distinguish between macro-prudential supervision and micro-prudential supervision and explain who is responsible for this in South Africa Describe the role of the Basel Committee on Banking Supervision (c) The role of the SARB in the payment system Define a payment system

Describe the role of the central bank in the payment system Explain why an effective payment system is important in the economy Describe the National Payment System (NPS) of South Africa Describe the SAMOS system and explain its role Describe the Continues Linked Settlement (CLS) network and explain its role (d) Services provided to government Explain which government accounts are held with the SARB Explain the role of the CPD Explain how the SARB may act as advisor, agent and representative to the government Describe what tax and loan accounts and Exchequer and Paymaster General Accounts are Describe the role of the SARB as advisor to the government regarding foreign exchange services, public debt management policies and administration of exchange control (e) Custodian of official foreign exchange reserves Define foreign reserves List and briefly describe the reasons why central banks hold foreign reserves Discuss the SARBs approach to managing foreign reserves (f) Issuing of banknotes and coin Motivate why central banks issue cash (g) Collection and interpretation of economic data and research Which publications do the SARB makes available (h) Functions of the subsidiaries of the SARB Define the CPD and briefly discuss its role in the South African economy Define the South African Mint and briefly describe its function Know that the SARB has the sole right to issue banknotes into the South African economy and that these are issued by the South African Bank Note Company (Pty) Ltd Define the SARBCIC and briefly discuss its function