Finance Assignment: Critically Reviewed
Added on 2020-06-06
15 Pages5317 Words32 Views
FinanceCalculus and AnalysisEconomicsPolitical Science
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Critically Review
TABLE OF CONTENTSINTRODUCTION...........................................................................................................................3Systematic risk.............................................................................................................................3Risks which are facing by financial institution............................................................................4Liquidity crisis and its impact on banking firms.........................................................................6Financial regulation and an overview of the Basel accords........................................................7Causes of the crisis 2007-08........................................................................................................8Regulations in relation to controlling bank’s liquidity and solvency for the minimization ofrisk after post crisis era..............................................................................................................9Structural reforms in UK banking sector...................................................................................11CONCLUSION..............................................................................................................................12REFERENCES..............................................................................................................................13
INTRODUCTION Risk implies for the potential in relation to gaining or losing some value in terms offinancial wealth etc. Hence, risk may be served as intentional interaction with the aspect ofuncertainty. From assessment, it has been identified that risk entails the possibility in relation tolosing money from the original investment. On the basis of cited case situation, the main motiveof banking firms is to maximize shareholders wealth through the means of profit maximization.For the attainment of such objective banking firms lay high level of emphasis on taking risk.Moreover, risk and return both the variables share positive relationship with each other. In this,report will highlight the situation of financial crisis and causes associated with it. Besides this,report will also shed light on the aspects of liquidity crisis, financial regulation, Basel accord andglobal financial crisis. Further, it also entails and provide deeper insight about the reforms inbanking sector. Systematic risk In accordance with the views of Danielsson (2013), systematic risk is known as un-diversifiable, volatile and market peril. Such risk has high level of negative impact on thecondition of overall market not only on particular stock or industry. Hence, in the real life, it isnot possible for the banking institution and other investors to predict systematic risk as well asavoid the same to a great extent. Thus, it can be presented that systematic risk cannot bemitigated through the means of diversification. However, on the other side, Fratzscher (2012)stated that by employing or right asset allocation strategy investors or firm can mitigatesystematic risk. On the basis of such aspect, by putting some of the assets in bond and others instock the concerned risk can be reduced to the significant level. The main reasons behind this,when interest rate shifts the bonds become less, whereas stock more valuable and vice versa. Inthis way, assets allocation strategy limits the overall change in portfolio occurred due tosystematic risk. Hence, interest rate changes, inflation, recession etc. reflect systematic risk which in turnaffects the entire market. Thus, it is one of the main reasons regulations are setting down by theconcerned authority for reducing the impact of systematic risk. Frankel and Saravelos (2012)asserted that global crisis 2008 is one of the best examples of systematic risk. Moreover, such
risk does not affect individual firm as it places direct impact on the whole industry. Hence,systematic risks are highly associated with cascading failures which means failure of big entityplace direct impact on others that are performing in the industry. At the time of global crisis therewere several banks which compelled to close their business operations due to having inadequateincome for meeting day to day expenses. Referring the same, it can be presented that systematicrisk has high level and adverse impact on the whole sector. Risks which are facing by financial institution By doing investigation, Frankel and Saravelos (2012) found that financial crisis indicatesthe inability of banking firms in relation to identifying, understanding and controlling risk whichis facing by them. In the concerned study, it is mentioned that credit risk has significant impacton the profitability and growth aspect of banking institution. Moreover, credit risk implies for theone in which bank borrower and counter party fails to meet the obligations as per the agreedterms and conditions. The main reasons behind the occurrence of credit risk are loan, acceptance,interbank transaction, trade financing, foreign exchange transactions etc. For example: whenindividual takes loan from the bank and fails to repay the same due to having inadequate incomethen it is considered as credit risk. Hence, such risk is one of the main cause due to whichsituation of monetary crisis occurred in 2007-08. Moreover, during such period severalborrowers were not in position to repay the amount of loan taken for home purpose due to less orinadequate income. Thus, major risk which is facing by the financial institution highly associatedwith the credit aspect. However, on the critical note, Poole (2010) depicted that with the motive to generatehigher income or profit and sometimes due to the political pressure banking institutions prefer totake credit risk. In this regard, banking firms can reduce or minimize the level of credit risk byincreasing the rate of interest. Along with this, by considering the factors such as unsteadyincome, credit score, employment type, collateral assets banking firms can determine the extentto which credit risk is associated with borrower. Hence, by taking into account such aspectbanking firm can decide the interest rate for borrowers and thereby would become able to exertcontrol on such risk. On the other side, Bengtsson (2013) mentioned in the study that conditionof loss is facing by bank when it performs interbank, foreign and other transactions. Moreover,when transaction is unsuccessful at ones end then it may result into loss to other.
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