Banking Evolution and Monetary Policy

Banking Evolution

• Early banking: Temples and palaces in ancient civilizations (e.g., Greece, Rome) served as safekeeping facilities for gold and valuables.
• Goldsmiths (17th century): Began to accept gold deposits, issuing receipts that could be used as a medium of exchange.
• Central banks (17th century): Established to manage government finances, stabilize currency, and regulate the banking system.
• Commercial banks (18th century): Emerged to provide loans to businesses and individuals.
• Retail banking (20th century): Focus on consumer banking, offering services like checking and savings accounts.

Banking Regulations

• Basel Accords (1988, 2004, 2010): International agreements setting capital requirements, risk management, and banking supervision standards.
• Dodd-Frank Act (2010): US legislation aimed at promoting financial stability, consumer protection, and regulatory oversight.
• BankingActs and laws: Vary by country, but generally regulate banking activities, licensing, and supervision.

Financial Systems

• Types of financial systems:
  • Fractional reserve banking: Banks hold a fraction of deposits as reserves, lending the rest.
  • Full-reserve banking: Banks hold 100% of deposits as reserves.
• Financial intermediary functions:
  • Maturity transformation: Converting short-term deposits into long-term loans.
  • Risk transformation: Managing risk through diversification and risk assessment.
  • Liquidity transformation: Providing liquid assets to meet depositor demands.

Central Banking

• Functions:
  • Monetary policy: Regulating money supply and interest rates.
  • Banking supervision: Overseeing commercial banks and financial institutions.
  • Lender of last resort: Providing emergency loans to prevent financial instability.
• Tools:
  • Open market operations: Buying or selling government securities to influence money supply.
  • Reserve requirements: Setting minimum reserve levels for commercial banks.
  • Interest rates: Adjusting rates to influence borrowing and spending.

Monetary Policy

• Objectives:
  • Price stability: Controlling inflation and deflation.
  • Maximum employment: Promoting economic growth and job creation.
  • Moderate long-term interest rates: Maintaining stable financial conditions.
• Tools:
  • Monetary easing: Increasing money supply to stimulate the economy.
  • Monetary tightening: Reducing money supply to combat inflation.
  • Forward guidance: Communicating future policy intentions to influence market expectations.