Comprehension

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UThe UK Financial System

READING SKILLS

Ø Skim the text and give a suitable heading to each part.

Ø Try to find the key sentence in each paragraph.

Ø Make comments on the statements in italics.

There are three kinds of operator in the UK financial system:

1. Lenders and borrowers – persons, companies, government.

2. Financial institutions – which act as intermediaries between lenders and borrowers, and manage their own asset portfolios.

3. Markets – where money is lent and borrowed, and paper assets are bought and sold. These include the discount or bill market (the traditional London money market), the newer or parallel money markets, the gilt-edged market, and the Stock Exchange.

Financial assets are issued by borrowers and traded by financial institutions who hold them. These assets are of two basic kinds – bills and bonds, and shares (equities). A bond is an interest-bearing asset issued by central or local governments, companies, banks and other institutions. Bills are three-month assets issued by the Treasury and some companies. Equities (or shares) are non-redeemable assets issued by companies and investors are actually buying part ownership (a share) of a company.

Any higher yield on one type of asset would cause financial institutions to adjust their ‘portfolios’ in favour of that asset. The higher demand would raise the market price of the asset and thereby reduce the yield.

Assets are imperfect substitutes because they possess different characteristics with respect to liquidity, marketability and profitability.

Since 1990 the bank of England has dropped the term ‘monetary sector’ preferring to refer to the institutions in it as ‘UK banks’. These include:

(a) ‘retail banks’ – banks which either participate in the UK clearing system or have extensive branch networks;

(b) merchant banks;

(c) other British banks;

(d) American banks;

(e) Japanese banks;

(f) other overseas banks;

(g) the building societies.

The Bank of England is divided into the Issue Department, which is part of the public sector accounting system, and the Banking Department. Its functions can be divided into those which are required by its role as banker to the government and those which it performs as banker to the banks.

As banker to the government it must:

Ø implement monetary policy by manipulating interest rats, using direct controls, or restricting bank credit as necessary;

Ø regulate the issue of legal tender;

Ø manage both the issue and redemption of government stock;

Ø keep the government’s accounts;

Ø use official reserves to intervene in the foreign exchange market.

As banker to the banks it must:

Ø supervise the cheque clearing system;

Ø act as ‘lender of last resort’ to the banking system;

Ø exercise supervision over the banking system as a whole.

The Bank also acts as banker to overseas central banks, as well as to international organizations and other institutions, companies and private individuals.

Ø What does the British financial system consists of?

Ø Describe the discount market.

Ø What assets are traded by financial institutions?

Ø What does the term ‘UK banks’ cover?

Ø Describe the functions a central bank fulfils.

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