The early part of the twenty-first century has witnessed a sea-change in regulation of the financial system following the financial crisis of 2007-2008. Prior to that financial crisis, the official policy was directed to deregulating the financial system, whereas after 2008 the move is towards increased regulation. This book begins the study of the UK financial system with an introduction to the role of a financial system in an economy, and a very simple model of an economy. In this model the economy is divided into two distinct groups or sectors. The first is the household sector and the second is the firms sector. The book describes the process of financial intermediation, and in doing so, it examines the arguments as to why we need financial institutions. It highlights the nature of financial intermediation, and examines the various roles of financial intermediaries: banks as transformers, undertaking of transformation process, and providers of liquidity insurance. The nature of banking, the operations carried out by banks, and the categories of banking operations are discussed next. The book also examines the investment institutions and other investment vehicles. It examines the role of central banks in the financial system in principle, particularly, the role of the Bank of England. Primary market for equity issues, secondary market, the global stock market crash of October 1987 and efficient markets hypothesis are also covered. The book also looks at the trading of financial derivatives, risk management, bank regulation, and the regulation of life insurance companies, pension funds.
The focus of this chapter is the
natureofbanking and the operations carried out by banks. 1 Banks are the most
important category of financial institution, which, as we saw in chapter 2 , provide
intermediation services to the economy. They also provide payments
services and thus play a pivotal role in the operation of the
became an international banking centre with a far larger
number of banks and the natureofbanking business changed radically.
A decade of deregulation?
The Big Bang
The Conservative government in the UK deregulated the City of London
in 1986 in a series of measures dubbed ‘Big Bang’.6
The UK Banking industry … was transformed by Prime Minister
Thatcher’s ‘Big Bang’ financial deregulation program of 1986.7
It is often assumed that the failures associated with LIBOR and the
foreign exchange markets were all due to the decision to ‘deregulate’
regulation’, since it is designed to
ensure prudent behaviour by financial institutions. Before
discussing the detail of bank regulation it is important to
appreciate a particular problem that arises from the international
natureofbanking: banks can readily shift their business from one
country to another. This raises two issues. The first is that
regulation has to be agreed on an