The Banking Sector of the UK: the Application of the Essential Measures - Research Paper Example

Abstract During past three decades directorial construct of large commercial banks has gone through a process of evolution which requires more expertise and attention toward management aspects. During 60s a majority of banks were being controlled geographically and were taken as sole and distinct business line. Almost in all organization whether big or small nearly all branch business was looked after by the branch managers. Gradually banks administration realized the essentiality of augmented proficiency to extend credit and started to remove the big corporate clients from the branches and shifted them to specific business units according to their size. They were required to be dealt with specific expertise like asset based lending, cash management etc. Thus this paper intends to analyze such revolutionary trends in modern banking with special reference to asset and liabilities management and dealing with the crisis situations Banking and International Banking Systems Introduction The concerns for the ailing European Banking system by the government officials are rising not only in the west but also in other eastern chunk. On the December30, 2008 the extent of this banking crisis was outlined in the publication named Big Trouble for European Banks in 2009, however it is now predicted that these issues will have a far reaching impact. Currently the Western European state in the spotlight is Austria as it has an exposure of 277bn US dollars to the promising Europe. Due to this media is attracted to Austria and the Austrian politicians are prompted to the European and international sources of finance, for its creditors, as the credit quality have worsened in the emerging Europe. However the international lenders are perceived as to be dedicated to provide support to cater the balance of payments of the most exposed economy of the world, nevertheless there are some issues which must be considered: Is The IMF Enough? Albeit the assistance from the IMF and others is readily available, however this may not be enough to cater the issues. As the element of the political will is significant as it is required to endorse the alterations required by the multilaterals, however the macro-economic conditions in some countries such as Ukraine is already becoming problematic. (Emerging Market Monitors, P.1, 2009) Key Evolutionary Trends in Commercial Banking: Arrays of banking institutions that have emerged until recently in the European region have had developed and evolved particular patterns and trends in their practices. These progressions have been construed by a financial journalist Thackery (2002) as the ones on tentative basis. He expresses that much of these newer banking institutions are experimental and thus mortality rate among these is high. However the broad evolutionary trend is reliable due to the changes at the office. In the perspective of developments which will be discussed in following discussion, the conventional trends and patterns subjugated by the merchant and commercial banks is said to have some noteworthy limitations; these developments are the increase in the lending of the medium and small term loans, increase in the number of and development of the multinational corporations, most importantly the development of the Eurodollar i.e. the first international currency of the world, the issuance of the securities to the general public of the Eurodollar. Moreover these developments have resulted into an assortment of structural alterations. One and the most significant is the reduction in the percentage of the profits banks used to earn to serve the trade in various service and manufacturing business on credit basis. Furthermore, as now multinational organizations seek to and actually do maintain their bank accounts in countries they operate, the larger chunk of their business practices is carried on ban checks. However some of these merchant banks have benefited as well, as they have expanded in foreign countries with diversified services. But the development of branches in which the U.S. banks had a pro during the mid of 1960 has crossed its limits. The reasons which limit the use of the Eurodollar in the banking system are identified by Theckery (2002) these are the speed and the diversity with which the European banks paralleled to the U.S banking services and also the liquidity squeeze by the U.S., more over he expressed that there was another key issue for such circumstances, which were this that the managers employed in the banking services predicted that if not at all there would be only a small group of large banks which would be able to provide a comprehensive range of diversified services to all of the significant and key trading centres of the world. Therefore the same people moved towards the consideration of the creation of multi-partnerships contracts and the notion of joint ventures began to evolve, as this would lead to benefits such as not only a greater proportion of these financial centres will be catered, but a lower cost of capital and lower probability of risks will also be possible. The development of the medium-term lending has encouraged various novel introductions, by intermixing merchant and commercial banks. It was the case formerly in the European banking sector that previously a larger sum of funds was easily available at hand to be provided as loans, however what lacked in them was the talent of the personnel who handled them to structure these loans appropriately. Outside the circle of the traditional commercial banking, the provision of the medium term loans has resulted in banks to evolve in various policies. These effects have led to split corporations either in performance with merchant banks or with the form of faculty the merchant banks have engaged. Apart from the above is the reduction in the strength of the former strong status of the commercial banks as the middlemen between the European commercial banks which had the major capital for investment and the ones which were seeking this capital. “This role depended on the unwillingness or incapacity of suppliers and users to get acquainted and deal with one another directly”. However, in the recent years, due to the newer and more developed structures banks have now become capable and willing to do so. Various public issues of the sort formerly about a domination of investment and merchant banks have been controlled in the past few years by U.S commercial banks and a range of new conglomerates and organizations. However according to Thackery (2002) there are issues, despite the robust and sound development of institutions that induces an element of uncertainty in future. This is because of the anxiety in the joint and partnership consortium, as he expressed that “Critics have charged the whole consortium movement is so pitted with conflict-of-interest problems, with headaches of territorial rights and get what and when, that, if they aren’t already, they soon will be paralyzed.” (p.1) Banking Crisis The banking sector of the UK is in an uncertain situation. The application of the essential measures, needed to clearout the economy could be delayed due to the robust vested interests. There is a possibility of some of the largest of the banks in UK to be nationalised. There is also a possibility that public sector funding are expected reduce significantly, as the pressure on the state’s balance increases, so does the anxiety over how UK will meet its debts. And as the interest rates reach zero quantitative easing is expected to be practiced by the policymakers. (UK: Country outlook, 2009) International Relations: The UK’s government have implemented a defensive strategy towards the European nations, this have induced an element of distrust between the UK and the European Union (EU) and have also negatively contributed to the worsening of Labour Party’s local position. It is said, then too, that the relationship between the federation’s big three i.e. France, Germany and UK should remain reliable, under the present government. (UK: Country outlook, 2009) Policy Trends: Stanislav (2004) states in his book the presently the government’s main focus is on administering the mounting financial crisis. Both in terms of state’s increased involvement in the economy and increasing financial commitments, the policies adopted so far will have far reaching effects on the economy. Continued uncertainty over the large volume of distressed assets that remain on institutions' balance sheets, however, reflecting the scale of the global asset price collapse, and also the expectation of loan defaults from borrowers due to the worsening of the economic recession, simultaneously with the worsening of the banking sector in Asia and Latin America, it is quit unavoidable that to rescue the banking sector further government involvement will be required. (P. 49-50) Moreover it is quite alarming that the government officials in the Europe and the UK region are fully prepared to actually realize the extent of the crisis and therefore take essential measures to cater these problematic issues; total dissolution of the banks debts, disposal of the assets categorized as toxic and capital reorganization of the organizations that are perceived as too-big-to-fail, so that the confidence in the capital sector investment could be restored and also the smooth progression of the financial system could be regained. At least the UK government has offered newer state assisted guarantees and loans and also the Bank of England has been made to organize any unconventional measure to enhance the money supply into the economy. (UK: Country outlook, 2009) International Assumptions It is quite clear that the global economic conditions are undesirable with no revival in the foreseeable future. At the market exchange rates the world market is expected to decline in 2009 by 0.9 percent i.e. the first squeeze since the World War II, moreover expansion is expected to be 1.4 percent only and will be much slower than expected in the last decade of the last century. As world trade is predicted to be prone to decline significant recessions are foreseen in the UK, US and Japan. (UK: Country outlook, 2009) Economic Growth: As the consequences from the most fatal financial crisis since the 1930’s has been spreading increasingly into the real economy, the economic conditions are worsening at a frightening rate. Presently UK is facing the worst economic condition, as its banking systems has broken thus resulting into the rising of prices of the commercial and residential property; thus raising level of unemployment, and as investment is has loosed confidence industrial production has been failing and further failures to meet requirements is foreseen in all other aspects of the economy. (UK: Country outlook, 2009) This collapse of the world’s largest asset and liability gurgle the world has ever seen can be referred to determine the extent of the financial crisis. Moreover it is expressed that UK is more exposed to the consequences as it already face the issues regarding its huge housing industry, unaffordable levels of personal liability, uncertain fiscal conditions and uneven dependence on the bedridden financial sector. The economic markets have alleviated to some extent, then too the UK's principal banks stay on to be bared to a mount of bad-debts and will suffer more considerable fatalities in 2009 as the worsening depression escorts to an augment in non-payment from overleveraged borrowers (both private and commercial). Any prolonged recoveries aren’t expected in lending until the next two to three years as the current policies are not up to the required competence. In the year 2009, the real GDP has contracted by 3.6 percent and predicted to worsen until 2010. And moreover another prolonged era of depression and collapse is inevitable and persist to increase and worsen if comprehensive and appropriate measures and instruments aren’t used to improve current conditions of the financial system. (UK: Country outlook, 2009) Inflation: As preceding sensitive increases in worldwide power and rations prices fall out of the manifestation and as capability pressures deteriorate not in favour of a environment of hastily toning local demand and intensifying unemployment, inflation (CPI gauge) has reduced back progressively from its peak in September 2008 and is anticipated to demur more harshly in the following months. Due to the transitory cut in the Value-added tax the price pressures will also reduce. In spite of the limitation of sterling improving import prices, CPI inflation is predicted to average 0.4 percent in 2009. However, the RPI inflation will turn depressing for a prolonged period as it includes the cost of housing as well. (UK: Country outlook, 2009) Exchange Rates: Against the US dollar and the Euro the Sterling has lost about 25 percent of its value in 2008 which was prone to happen as overvaluation has been done previously for a longer period. As UK interest rates head towards zilch and as the declining financial viewpoint alleviates the risk premium coupled with investment in sterling assets, it is expected to deteriorate more in 2009 against the dollar. However, some ground can be reclaimed against that Euro as the Sterling disentangles some strength recently, thus by 2010, Sterling is expected to alleviate, although with phases of instability and on the supposition that worldwide monetary hassle progressively start to relieve. Moreover there is a minute, however feasible menacing that investor’s confidence over financial sustainability and the economy's revelation to the economic emergency could prompt a complete escape from sterling. (UK: Country outlook, 2009) External Sector: The deficit in the current account was reduced to below 2 percent of the Gross Domestic Product (GDP) in 2008, which as aided by an increasing income superfluous. However, it is expected that it will worsen as the demand for the exports are falling significantly, previous to declining back in the year 2010 as the fragility of sterling and a cautious recuperation in some abroad markets provides an advance to exporters. (UK: Country outlook, 2009) Funds Transfer Pricing and Asset/Liability Management As stated by Kimball (1997) The state treasury system in most of the banks was allowed to manage the funds transfer function, which was due to two reasons that the treasury was the principle user of cumulative information from the finances transmit system for tenacity of inter-bank asset/liability organization and also because the association of the treasury with the external finance markets made it rational determinant of the market transfer rates. Interest rate menace was eradicated by corresponding the asset or liability with the suitable development transfer rate band, from the point of view of each entity. However, incongruity in the capacity of assets and liabilities initiated in a meticulous development band would turn out to be discernible at the band point, from an inter-bank perception, thus now it would be the treasuries headache to manage any shortages or surpluses. For instance, if three months assets and liabilities were generated on the inter-bank basis, then it would the responsibility of the treasury to cater and differences. In the similar manner if additional three month asset and liability were produced then the treasury will cater the investment funds. The consequences of the maturity matched funds transfer system is to make the asset and liability disparity to hoard at the treasury level. The reserves can also circumvent the variance in the outer funds market, or instead it can supervise the divergence to take benefit of it’s anticipate for the potential path of interest rates. Regardless of which choice is made, multiple-rate, matched-maturity finances transmit pricing systems are the main resource of information for asset and liability supervision in the banks. Furthermore, since the particular lines of trade function on a completely prevaricated center, any earnings gained by the bank from the mismatching of assets/liabilities build up at the treasury level. Consequently, the possessions of interest rate variations on the disposable interest margin of the bank can be acknowledged and divided from the consequences of certain lines of trading. This dismantling of the net interest margin can be illustrated by Figure 1: (Kimball, 1997) In the above figure three positive curves are shown. The yield curve faced by banks for those assets it originates is represented by the AB curve, while curve CD shows the curve confronted by the banks for the liabilities it had produced. The curve faced by banks in the foreign funds markets is denoted by the curve EF thus representing the interest rates at which the banks acquire funds from the external source, thus EF can also be used to determine internal transfer fund pricing. (Kimball, 2007). References Emerging Marketing Monitors.(2009). Business Monitor International Ltd. Feb 23, 2009. Vol. 4 No. 44. ISSN: 1350-0006 Kimball, R. (1997, May). Innovations in performance measurement in banking. New England Economic Review, Retrieved March 11, 2009, from Academic Search Premier database Stanislav, P. (2004). Reforming the Financial Sector in Central European Countries. Palgrave Macmillan Press. Thackery, J. (2002). Financial Journalist. Abstract from European Business, Spring.2002. p.41 UK: Country outlook. (2009, February). EIU ViewsWire.  Retrieved March 09, 2009, from ABI/INFORM Global database. (Document ID: 1647352031). Read More