William Chittenden edited and updated the PowerPoint slides for this edition.
MANAGING AND PRICING
NON-DEPOSIT LIABILITIES
Chapter 4
Key topics
1. Liability management
2. Customer relationship doctrine
3. Alternative non-deposit funds sources
4. Measuring the funds gap
5. Choosing among different funds sources
6. Determining the overall cost of funds
13-2
Customer relationship doctrine
The first priority of the bank is to make loans to all
qualified customers and if funds are not available
the bank should seek out the lowest cost source of
funding to meet customers’ needs.
13-3
Liability management

The bank buys funds in order to satisfy loan requests
and reserve requirements

It is an interest-sensitive approach to raising bank
funds

It is flexible – the bank can decide exactly how much
they need and for how long

The control mechanism to regulate incoming funds is
the price of funds

13-7
Federal funds market

Immediately available reserves are traded between
financial institution and usually returned within 24
hours, although maturities are negotiated and can
extend up to several weeks

Deposits with correspondent banks and demand
deposit balances of security dealers and governments
can be used for loans to institutions.

Interest rates are negotiated between trading partners
and are quoted on a 360-day basis
13-8
13-9
Types of Fed funds loan agreements
•
Overnight loans

Negotiated via wire or telephone, returned the
next day

Normally not secured by specific collateral,
although might
•
Term loans

Longer term Fed funds contracts (several days,
weeks, or months)

Reverse Repo
Borrowing from the Federal Reserve

Discount window

Discount rate

Policy is to set discount rate 1% (1.5%) over the Fed
Funds target for primary (secondary) credit loans

To borrow from the Federal Reserve, banks must apply
and provide acceptable collateral before the loan is
granted

Eligible collateral includes U.S. government
securities, bankers acceptances, and qualifying
short-term commercial or government paper
Borrowing from the Federal Reserve

Primary Credit

Available to generally sound depository institutions on a
very short-term basis, typically overnight

It serves as a backup source of short-term funds for
sound depository institutions

Secondary Credit

Available to depository institutions that are not eligible

system by buying FHLB stock
Advances from the Federal Home Loan Bank

If it has the available collateral, primarily real
estate related loans, it can borrow from the
FHLB, as a way to improve the liquidity of
home mortgages and encourage more lenders
to provide credit

FHLB advances have maturities from 1 day to
as long as 20 years

Number of loans has increased dramatically in
recent years
13-17
Commercial Banks with FHLB Advances,
1991–2004
Commercial Banks with FHLB Advances
$50
$100
$150
$200
$250
$300
$350
$400
$450
Billions of Dollars of FHLB
Advances
100

in banks outside the U.S.

Eurocurrency deposits originally were developed in
Western Europe to provide liquid funds to swap
among institutions or lend to customers

Labeled ‘Liabilities to foreign branches’ when a
foreign branch lends Euro-deposits to its home
office
13-21
Commercial paper

Short-term notes with maturities from 3 or 4 days
to 9 months issued by well-known companies.

Two types

Industrial paper - purchase inventories

Finance paper – issued by finance
companies and financial holding companies

Banks cannot issue these directly but affiliated
companies can issue them.
13-22
Long-term non-deposit sources of funds

Mortgages to fund the construction of new
buildings.
