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    Dr. Rania Salem/Bank Management Spring 2012

    Bank Management

    Dr. Rania SalemDepartment of Finance

    Spring 2012Lecture notes-1

    Introduction to Banking Environment

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    General Information

    Lecturer: Dr. Rania Salem

    Instructor Office Hours:Thursday 2nd and 3rd slots, B3.209

    Teaching Assistants: Mrs. Samah Adel & Ms. Menna Hafez

    Course Schedule:

    Tuesday 8:3010:00, H3

    Textbook: Selected References will be announced per topic

    Bank Management & Financial Services by Rose & Hudgins, 8th ed.,McGraw-Hill, New York 2010.

    Course Assessment:

    Final Exam: 40%

    Midterm Exam: 20%

    Course Work (Quizzes and Assignments): 40%

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    Course Agenda

    A. Basic Bank Management Techniques

    1. Introduction

    2. RoE based Profitability Management

    3. Matched Funds Transfer Pricing Concept

    B. Risk and Returnan Integrated Approach1. Principles of Risk/Return Management

    2. Value Based Performance Management

    C. Bank Specific Issues1. Credit Risk Management

    2. Operational Risk Management

    3. Introduction to Islamic BankingDr. Rania Salem/Bank Management Spring 2012/3

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    Course Agenda

    A. Basic Bank Management Techniques

    1. Introduction

    2. RoE based Profitability Management

    3. Matched Funds Transfer Pricing Concept

    B. Risk and Returnan Integrated Approach1. Principles of Risk/Return Management

    2. Value Based Performance Management

    C. Bank Specific Issues1. Credit Risk Management

    2. Introduction to Islamic Banking

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    Banking Activities

    Banks (as financial intermediaries) facilitate the flow of funds from surplusspending units (savers) to deficit spending units (borrowers)

    Important functions

    Risk transformation

    Volume transformation

    Maturity transformation

    Some unique characteristics

    Banks are usually under regulatory supervision

    Their function isprimarily financial, thus most banks own few fixedassets

    The liabilities are usually payable on demand or carry short termmaturities, therefore being highly dependent on interest rate changes

    Banks usually operate with less equity than nonfinancial companies,leading to a high financial leverage andvolatility of earnings

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    The Balance Sheet

    As always:Assets = Liabilities + Equity Typical bank assets

    Loans, usually the major asset

    Investment securities

    Noninterest cash and due from banks

    Other assets

    Typical bank liabilities

    Transaction accounts

    Savings and Time Deposits

    Other Borrowings

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    The four Building Blocks for an integrated

    Management Control System in Banks

    Profit OrientedBusiness

    Philosophy

    InstitutionalizedManagement ControlCycle

    Market Orienteddual Organization ofStructures andProcesses

    AdequateInformation

    System

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    Building Block 1:

    Profit Oriented Business Philosophy

    Profit oriented target system on all decision levels

    (1) Primacy of Profitability

    (2) Growth and risk policy as instruments to secure and increase

    profitability

    Profit oriented incentive scheme in consistence withdecision competence and responsibility

    (1) Profit oriented design of the compensation system

    (2) Synchronization of bank profitability targets and personal incomeand career targets

    Profit oriented calculation systems to measure customerand market attractiveness

    (1) Collection of customer related results (actual, budget, potential)

    (2) Absolute condition for customer or segment specific decisions

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    Building Block 2: Market Oriented dual

    Organization of Structures and Processes

    Consequent orientation towards a customer orientedprofitcenter organization

    Cross sectional coordination of customer related divisions,using product and functional departments with decisionalauthority and structural profit responsibility

    Organizational structure withprocesses (value chains) instead ofbureaucratic competency rules (decreasing of hierarchies in favorof activity based structures)

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    Building Block 3: Institutionalized

    Management Control Cycle

    Organization of planning should follow top-down/bottom-up

    process

    Regular monitoring of the achievement of objectives andsystematic variance analysis, following the Management by

    Exception principle

    Ensure that problem awareness, competence, and responsibilityare present at the interface between bank and market, followingthe Self Controlling principle

    Coordination of decisions and activities following the DualSteering Model; i.e. Integration among decision making and

    the different individual departments

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    Dual Steering Model

    regulatory standards regarding the balance sheet overall structure of the credit portfolio strategic structure of business segments central investment decisions central product decisions cost of overhead maturity and currency transformation profit profit oriented growth minimum profitability

    Centralized structural steering

    related to business structure

    business volume net marginscredit/debit margins marginal incomecommissions

    Local market related steering

    related to individual contracts or departments

    Integration

    Retail

    actionsWholesale

    actions

    volume budgets cost budgets budget and/or minimum

    margins

    benchmarks limits bonus malus systems

    interbank transactions securities trading foreign exchange trading

    Additional instruments Own account tradingAgreement on objectives

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    Building Block 4: Adequate Information

    System

    Decision-relevant profit information (conceptual foreach individual contract, target and actual values)

    Complete transparency of the profit sources in

    customer business (dice model) as well in centralinvestment, financing, and trading departments

    Integrated risk performance and risk taking capacityinformation for counterparty, operational, and marketrisk

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    Banking Regulations

    The banking regulatory scheme in any country iscategorized into three levels:

    1. Regulations that address the activities eligible bybanks

    2. Regulations of accounting and disclosure

    standards related to banking and investor protection

    3. International regulations

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    International (Global) Banking System

    Banks are globally interconnected through financialmarkets and inter-bank activities

    Advantages of Global Banking: ??

    Disadvantages of Global Banking: ??

    The Bank for International Settlement (BIS) is thebank of central banks

    Provides guidance to Central Banks Regulations

    Worldwide Proposed the Basel Accord as an international regulation

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    Basel Accord: Role & History

    The Basel Capital Accord was first introduced by the BIS in1988 to:

    1. Ensure the efficiency of banks risk management

    2. Support the confidence of market participants in the

    banking system through proposing adequate principles andmethods of a best practiced risk management framework

    Basel IIwas introduced in 2001 and implemented in 2004

    Recently, Basel III has been introduced in the market, in

    response to the subprime financial crisis

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    Basel II Pillars

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    Pillar 1

    Minimum CapitalRequirements

    Pillar 2

    SupervisoryProcess

    Pillar 3

    Market Discipline

    Standardized Approach

    Internal Rating-Based Approach:i. Foundation IRBii. Advanced IRB

    Credit Risk

    Standardized Approach

    Internal Model ApproachMarket Risk

    Standardized Approach

    Basic Indicator Approach

    Advanced Measurement Approach

    OperationalRisk

    Proposed

    Assessment

    Methods

    under

    Pillar 1

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    Banking Sector Problems in Egypt

    A majority of people face the problem oflimited access to

    financial intermediation, which is a constraining factor foreconomic growth

    Limited access to finance is not just a matter of ability to paythe interest but also connections and relationships with key

    banking sector and finance ministry officials As of 2006 estimations, less than 10% of the population

    have a bank account

    Egypt has apublic sector dominated banking system.

    The guaranteed income for the government-owned banksdenominated bygovernment securities with shortmaturity reduced the banks' incentives to develop capacityto serve small and medium private investors.

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    Non Performing Loans

    The Egyptian Banking sector has long suffered from the accumulation

    ofnon performing loans (NPL) which reached its peak in the late1990s

    The NPL problem can be summarized as follows:

    Corruption in the lending activities, as loans were given based on

    overvaluing assets to fit the collateral base of each bank anddisregarding future cash flows of the borrowing entities. Thisproblem is a clear result ofweak supervision by the CBE

    Public banks were used to lend state-owned companies based on

    government instructions; e.g. 26 billion EGP are owed by public

    enterprises to the four state owned banks As a result, the bankingreform programwas set to tie up this

    deteriorating situation of increasing NPLs, including both public

    and non-public banks

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    Banking Sector Reforms since 2003

    Major Elements

    Raising the minimum capital requirement for banks,this led to mergers and acquisitions

    Administrative and financial restructuring of thepublic-sector banks

    Privatizing the big public sector banks and divestingtheir stakes in joint ventures

    Strengthening of regulatorysupervision by the CBE

    As a first result, the number of banks declined from57 (September 2004) to 43 (June 2006)

    The government aims to scale backthe number ofbanks to 22

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    Egyptian Banks in Response to Crisis

    ?

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