4.0 Understand the Role of
Finance in Business
Competency 4.02
Understand the Banking System
Objective 4.02-A
Analyze the roles/responsibilities of the Federal Reserve.
The Federal Reserve System

What is the Federal Reserve System?

Why does it exist?

Who participates?

How is it organized?
The Federal Reserve (The Fed)
A Centralized Banking System
Federal Reserve Act signed into law by President Woodrow
Wilson
Organized by the Federal Government in 1913
Why have “ The Fed” ? Purpose:



To establish and maintain confidence in the US monetary
system

To ensure a safe, healthy and stable economy

To supervise and regulate member banks and help serve the
public efficiently.
* Prior to the Federal Reserve Act anyone could issue currency or coin
money

Who Participates in Federal Reserve?
All National Banks are required to be part of the Fed
1)
1)
2)
3)
4)
5)
Optional for state banks
Divisions are called DISTRICTS
There are 12 DISTRICTS in the United States
Every state comes under a district
Each Federal Reserve Bank is a corporation, owned by its
member banks
NC is in
District 5,
the
Richmond
District.
The Federal Reserve

What are the two arms of “The Fed”?

Board of Governors


Represents the government (public) sector
District Federal Reserve Banks

Represents the business (private) sector
Board of Governors



Usually meet about
twice a week, ordinarily
on Mondays and
Wednesdays
Public is invited to look
into the meetings of the
Board of Governors
Usually discuss
monetary policy such
as lowering and raising
interest rates
The Board Room at the Federal Reserve in Washington, DC
Members of the Board
of Governors

Ben S. Bernanke, Current Chairman

Alan Greenspan, Retired Chairman

Chairman is appointed by President and
confirmed by Senate

Similar to procedure for Supreme Court Justices
Purpose of Federal Reserve

Established to supervise and regulate
banks
1.
2.
3.
4.
5.
Known as the “Bank’s bank”
The central bank of the United States
Assists banks with serving the public more
efficiently
All national banks are required to join the Federal
Reserve System
State banks have the option of joining the system
The Federal Reserve System Services
1.
2.
3.
4.
5.
6.
7.
8.
Supervision of banks
Agent for the federal government
Regulates monetary policy
Lends money to member banks
Acting as a clearinghouse
Participation in open market activities
Sets loan limits & standards
Supplies currency
1. Fed Supervision: Set Reserve
Requirements


Member banks are required to keep a
certain percentage (10% for many years) of
all deposits in the bank’s vault or on deposit
with the district federal reserve bank
Reserves: funds set aside for emergencies


Example: a rush of withdrawals by customers
Purpose: to reduce risk of bank panics and
protect depositor’s money
1. Fed Supervision: Audits Member
Banks
Inspects banks by auditing financial records
 Audit -an inspection of records to verify the:
1. accuracy of books (records) of the bank
2. bank is complying with banking laws
Similar to Individuals/corporations who are
audited by the IRS to review the accuracy of
a tax return.
1. FED Supervision: Approves Bank Mergers
Q: Why do banks merge?
To be more competitive
-to offer customers more locations (local, regional, national, international)
-to offer a variety of services more efficiently
-to compete with a growing array of other financial service companies
such as:
*money market and other mutual funds
*mortgage companies
*credit unions and
*credit arms of industrial firms (General Electric and Ford Motor)
Here are some recent bank mergers approved by “The Fed” in 2007-2008

Bank of New York bought Mellon Financial Corporation for $18.3 Billion

JPMorgan Chase bought Bear Stearns for $1.1 Billion

Bank of America bought Merrill Lynch Bank of America for $50 Billion

Wells Fargo bought Wachovia for $15.1 Billion
2. Fed Acts as Agent for Federal
Government

The Fed holds a checking account for the
US Treasury


Disburses social security benefits and other
transfer payments using the direct deposit system
Accepts some types of federal tax money
Example: Federal tax depositories
Payroll taxes - federal income tax, FUTA,
and social security taxes are deposited
using federal deposit coupon into a national
bank
3. FED Regulates Monetary Policy


What is Monetary Policy?
When the Federal Reserve influences money and
credit conditions in the economy to achieve
economic goals
How? The Fed determines amount of money in
circulation and available for loans, then either
increases or decreases to stabilize/stimulate the
economy


Tight money- policy when less money is available at
higher interest rates, slows (stabilizes) economy
Loose money- policy when more money is available at
lower interest rates, increases (stimulates) economy
4. FED Lends Money to Member
Banks
Monitors the discount rate of interest - rate used by the Fed to loan
money to member banks

Compare banks to intermediaries (go-betweens) trading in
money at “wholesale” prices
The Fed changing interest rates affect borrowers (member banks)
who pass rates to consumers

Raising rate - discourages borrowing

Reducing rate - encourages borrowing

Note: the Federal Reserve does not loan money to individuals or businesses
(only member banks) HOWEVER, rates the Fed charges member banks
“trickle down” and affect the interest rates for consumers
5. FED Acts as Clearing House
Clears/Processes/Settles checks for
member banks



Federal Reserve uses the Automated
Clearing House (ACH) to electronically
complete fund transfers (check
settlements) between banks
Interdistrict Settlement Fund in
Washington, DC used for between
district transfers
Checks/deposit slips have MICR coding


Magnetic Ink Character Recognition
Scanners read MICR on checks to
electronically process data accurately
and rapidly through the ACH and
Interdistrict Settlement Fund
6. FED Participates in Open Market
Participates in open market operations by buying and
selling government securities
Q: What are government securities?
A: Treasury bills and bonds – loans to government in various
denominations (amounts) and for various time periods

Advantages and Disadvantages
+ offer a fixed rate of interest over a fixed period of time
+ attractive because not subject to income taxes
- cannot be easily transferred and are non-negotiable
Open Market Operations
Government securities are sold at a discount (from face
value), but are redeemed (cashed in) for face value on
the maturity (due) date
Examples:
 Purchase treasury note for $7500 (discount price),
redeem at maturity date for $10,000 (face value)
 Purchase Series EE savings bond for $25, redeem
in 7 years at maturity for $50
Government Securities

Savings bonds - Example Series EE



Denomination minimum $25
Payable after 6 months
Earns interest up to 30 years
Short-term obligation of the U.S. Treasury
Treasury bill – maturity in one year or less


Issued to mature in 13 weeks, 26 weeks, 52 weeks
Long-term obligation of the U.S. Treasury


Treasury note – maturity at 1 to 10 years, minimum $1000
Treasury bond - maturity at 10 + years
Open Market Operations
Bank discount rates encourages borrowing by
member banks, and therefore encourages
borrowing by consumers
 Purpose of open market operations
1.
Regulate money supply
Most frequent method of controlling the
economy
 Who controls open market operations?
Federal Open Market Committee (FOMC)A committee within the Federal Reserve

7. The FED Sets Lending
Standards
Sets standards for
consumer legislation
dealing with lending
and credit


Sets limits for loans
and investments by
member banks
News: Federal
Reserve revised bank
lending rules since
banking crisis
Ex: Lower % of total
loans for land/acreage
8. The Fed Supplies Currency

Money defined:

a medium of exchange for value

US money = currency and coins
Federal Reserve supplies paper currency


Legal Tender for all debts, public and private
Paper currency supplied is “Federal Reserve Notes”
Printing currency (paper money, bills)


Bureau of Printing and Engraving
Counterfeiting - federal crime
Coinage

Minting supplied and regulated by the Department of
Treasury, US Mint
St. Louis Federal Reserve

http://www.stlouisfed.org/education_resource
s/
Topics

Classification of financial institutions



Depository
Non-depository
Common payment services





Electronic Funds Transfers
Online Bill Pay
Checking Accounts
Specialty checks
Money Orders
Classification of Financial Institutions

Depository


Earns money to finance their business by accepting
deposits from customers
Types include:




Commercial banks- full service - offer many different
services, including savings, loans, and checking accounts.
Savings and Loan associations (S&Ls) -traditionally
specialize in savings and home loans, but now are very
similar to commercial banks.
Mutual savings banks- owned by the depositors and
specialize in savings and home loans.
Credit unions- not-for profit, serve their members only, and
are owned by their depositors.
Classification of Financial Institutions

Non-depository


Earns money to finance their business by selling
specific services such as policies, investments, and
loans
Types include:






Life insurance companies -term, whole, universal
Investment companies - stocks, bonds, mutual funds
Consumer finance companies – higher rates if bad credit
Mortgage companies – loan $ for land, buildings, homes
Check-cashing outlets –fee based if do not have bank acct
Pawnshops –loan $ based on value of item pawned
How To Compare Financial Institutions

Which characteristics of financial institutions
are of interest?






Services offered
Safety
Convenience
Fees and charges
Restrictions
What kinds of questions may be asked about
each characteristic?
Comparative Questions

Services – Does the institution offer needed services?
 Savings
 Depository for payroll taxes
 Checking


Loans






Various options to meet customer needs
Short term - working capital
Long term - mortgage
Credit cards
Debit cards
Safe deposit boxes
Trust management
Comparative Questions

Safety – Is the institution insured against
losses?


Federal Deposit Insurance Corporation (FDIC)
Created by Congress to maintain stability and
public confidence in the nation’s financial system:
insures deposits, supervises financial institutions
National Credit Union Administration
(NCUA) Charters and supervises credit unions
Comparative Questions

Convenience – Does the institution offer the
access desired?


Physical locations available
Online services


Easy to access & use
ATM machines
Comparative Questions


Restrictions – Are there minimum balances
that must be kept, or other restrictions?
Minimum balance- $ amount required to stay
in account at all times

If account keeps minimum balance, fees are often
waived (eliminated)
Comparative Questions

Fees and Charges – What are the short and
long-term costs of the services?


Flat monthly fees
Fees per transaction





NSF (Non-sufficient funds) fees
Checks written
Debit transactions
# of transactions allowed before fees begin
Minimum balance required to eliminate fees
Common Payment Services



Electronic Funds Transfers
Online Bill Pay
Checking Accounts


Specialty checks


Personal, business
Certified, Cashier’s, Traveler’s
Money Orders

Postal, Express, Telegraphic
Online Bill Pay



Use the web to make payments
Often fee based
Privacy can be issue




Change PIN frequently
Use only “safe” sites
Write Online Bill Pay questions 1-3 from next
slide on notebook paper. Use the website to
answer the questions.
http://banking.about.com/od/bankonline/f/setupbi
llpay.htm
Online Bill Pay Questions
1.
2.
3.
What are the two types of online bill pay?
What is automatic bill pay?
Choose link Banking 101
Choose link 3 reasons to avoid online banking.
List 3 reasons given.
Common Payment Services - EFT
Electronic Funds Transfer (EFT)
Banking method in which computers and electronic
technology is used as a substitute for checks and other
paper forms of banking
Electronic Funds Transfer Options:





Automated Teller Machines (ATM’S)
Pay-By-Phone Systems
Direct Deposit or Withdrawals
Paychecks, automated bill payment
Point-of-Sale Transfers
Debit Cards
Automatic Deposits and Payments
36
Checking Accounts


Used by business and individuals to manage
cash transactions
Check


A preprinted form issued by the financial
institution
Account holder directs withdrawals by writing
checks
Parties to a Check

Payee, Drawee, Drawer
Parties to a Check
Drawer’s Name & Address
Joint Account
Payee
ABA #
Check
Number
Check
Date
Melanie Paige
Charles Paige
619 Main Street
Raleigh, NC 27601
319
2-131/1034
July 16, 2010
Pay To the Order of _____Donnie Tatum______________________$100.50
_One hundred and 50/100 ---------------------------------------------------DOLLARS
State Credit Union
For _______________
Charles Paige
2131/1034:78434 234320
100.50 07-18-2010 2251
Memo
Bank Name - Drawee
Drawer’s Signature Last item completed on check!
38
MICR Banking #s
Record Keeping
IMPORTANT:
Keep a current balance in
check register or on
check stub by:
 Recording deposits
 Recording withdrawals




Checks written
EFTs
Bank Fees
Common Payment Services

Special Checks

Travelers check


Requires 1st signature when check issued
Requires 2nd signature when check used
Go to link below and read about traveler’s
checks and how they work.
http://usa.visa.com/download/merchants/visa_travelers_cheques_acceptance.pdf
Traveler’s Checks
Traveler’s Checks – Draft
drawn by a well-known
financial institution on itself or
its agent, used when traveling

Go to website

http://www212.americanexpress.com/d
smlive/dsm/dom/us/en/personal/cardm
ember/additionalproductsandservices/
giftcardsandtravelerscheques/travelers
chequesandforeigncurrency.do?vgnext
oid=6d17fc671492a110VgnVCM10000
0defaad94RCRD
Write questions 1-3 on notebook paper.
Use the website to answer the
questions.
Click on Learn More about Travelers
Checks.
1.
2.
3.
List the 4 steps in how to use
travelers checks.
List 5 ways Travelers Checks mean
Peace of Mind.
What is the benefit of Cheques for
Two?
Certified Check


A certified check is
written by a bank for
you from your bank
account to give to
someone.
It's guaranteed funds
that the bank
reserves from your
account.


Go to website:
http://www.superpage
s.com/supertips/whatis-a-certifiedcheck.html
Write Certified Check
questions 1-5 from
next slide on
notebook paper. Use
the website to answer
the questions.
Certified Check Questions
1.
2.
3.
Who issues a
certified check?
Give two examples
of when you might
need a certified
check?
Why can’t a certified
check bounce?
4.
5.
Why does a creditor
require a certified
check?
Do banks charge a
fee for a certified
check?
Cashier’s Check Sample
Cashier’s Check – A check the bank draws on itself
Common Payment Services

Money Order

Draft issued by a
post office, bank,
express company, or
telegraph company
for use in paying or
transferring funds for
the purchaser
Orders issuing
agency to pay
amount printed on
form to another party


Types of Money Orders:



Postal money order
Express money order
Telegraphic money order
Go to website
http://en.wikipedia.org/wiki/Money
_order
Write questions 1-5 from next
slide on notebook paper. Use
the website to answer the
questions.

Money Order Questions
1.
2.
3.
For what amount of
money is a money
order issued?
When was the
Postal Order system
established?
What is a concern
about using money
orders?
4.
5.
Who usually sells
money orders in the
United States?
Name 5 security
features of a postal
money order.
Common payment services

Opening a checking account



Signing a signature card is the first step
Writing a check for payment
Endorsing a check for deposit


An endorsement allows the payee to cash the
check, deposit the check or transfer payment of
the check to someone else.
Different types of endorsements:



Blank
Full
Restrictive
Check Endorsements
Definition: Signature on the back of a check
What does an endorsement do?


Allows payee to cash, deposit or transfer payment of the
check to someone else
Provides proof that the payee cashed or transferred
payment of the check to someone else
How should a check be endorsed?
 Endorser (payee who is signing) should sign the check the
way it is on the front of the check and if the name is
misspelled, correct the signature directly up under the first
endorsement
48
Blank Endorsements
Should match
payee’s name



Signed with
endorser’s name only
(endorser is payee
from front of check)
Can be cashed by
anyone who holds the
check with a blank
endorsement!
X
Don’t use blank endorsement
before you are ready to cash
or deposit!
Jane Doe
DO NOT WRITE BELOW THIS LINE
49
Special Endorsement



Transfers payment of a check
to someone else.
Payee signs check , then
writes “pay to the order of”
another person
Can be used to make payment
on a debt
 Juan is payee on check
 Juan owes Maria money
 Juan transfers payment to
Maria.
Debt = money owed
Might also endorse:
Juan Delgado
pay over to
Maria Fernandez
Full Endorsement Example



Transfers payment to
someone else
Payee signs the
check over to another
person to receive
payment
X Pay to the order of
Jane Doe
John Doe
Who was payee on
check? John
DO NOT WRITE BELOW THIS LINE
51
Restrictive Endorsement




Limits use of the check
so it can be deposited
only to endorser’s
account.
Safest type of
endorsement
Cannot be cashed by a
thief or someone who
finds the check
Best to use when mailing
a check for deposit or
when using the ATM for
deposit.
Check Writing Procedures
1.
2.
3.
4.
5.
6.
7.
Write information in the check register first,
(ensure checks are written in numerical order)
Write the date the check is written.
Write the payee’s name.
Write in the numerical amount of the check.
Write in the amount of the check in words.
Write in the purpose of the check.
Sign the check.
How Do I Know the Amount in my
Checking Account?
Keep a Check Register or
Check Stub Balance
a.
Subtract checks written
(or debit card
transactions) from
balance
b.
Add deposits to balance
c.
Keep a running balance
after writing checks or
making deposits

Check Register is
YOUR documentation
of how much money
is in your account?

What if mistakes are
made?
You will make
corrections when you
reconcile (balance)
bank statement

Bank Reconciliation

What is a bank reconciliation?

Document that shows two equal balances



Your record of your checking account
The bank’s record of your account
Do they have the same $ balance?


Yes, or reconciliation is not complete!
Reconciliation helps to find/correct any
mistakes in your register!
Outstanding Checks




What is an outstanding check?
Outstanding checks are checks that have not
cleared (been deducted from) the bank
statement balance.
Need to know items outstanding in order to
reconcile statement
How to know if checks are outstanding:

Find out which checks /deposits are outstanding
by comparing the bank statement with the
checkbook register
Reconciling a Checkbook
Makes sure the bank’s records agree with your
records
1. Check for outstanding checks and deposits
2. Check the checks, deposits, ATM activity on the
bank statement to make sure that your records
are correct
3. Make adjustments to the bank statement and
your records to ensure that you and the bank
have the same amount of money
4. Reconcile every statement upon receipt
57
Steps in a Bank Reconciliation
1.
2.
3.
4.
5.
6.
Obtain the monthly bank statement.
Determine checks paid.
Find differences between the monthly bank
statement and monthly check register.
Calculate the adjusted balance.
If the balances do not agree, check the
steps again and recalculate.
Account balances must be equal!