Accounting for

FINANCIAL INSTITUTIONS
COMMERCIAL BANKING
Theory and Practice
Dr. M. Bahaa El-Din Badei El-Kady
Ph.D. from Manchester University, England
Professor of Accounting and Information Systems
Faculty of Commerce, Beni-Suef University

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 The text illustrates how critical commercial banks are to
the functioning and well-being of the economy.
 When bank loan and deposit-creating activities decline
(as happened during recent economic recessions), our
standard of living, the availability of jobs, and the
viability of the businesses we work for and trade with are
all threatened.
 When banks cannot or will not make new loans or create
new deposits, every individual and institution in the
economy is affected.

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 CHAPTER ONE
INTRODUCTION

This BOOK is made up and designed, firstly, to:

 Educate those university students, who are planning on, or
contemplating, a career in banking.
 To understand both the structure and the dynamics of the global
banking and securities industry.
 This book is, also, designed as an important resource for all of us as bank
customers. Each of us, as individual bank clients, needs to understand
what bankers can and cannot do for us in terms of credit, savings, and
other important financial services.
 As we know that banks worldwide are facing an increasingly
deregulated marketplace that is intensely competitive, with a rapidly
growing roll call of domestic and foreign financial-service competitors,
and this affects the quality of services banks are able to offer.

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 Commercial banks were given a virtual monopoly by
government regulations to sell checkable deposits and
other payment services, and they concentrated their
lending activities predominately on businesses and
governments.

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  That relatively simple world of banking a generation
ago has been swept away by the increasingly global
competition, rapid inflation, unstable currency prices,
changing regulations, and a volatile (unstable) global
economy.

 Moreover, the ongoing technological revolution,

combined with government deregulation of the
banking industry in country after country, has
stimulated more aggressive financial management
practices. Scores of banks and other financial-service
businesses have failed or have been absorbed by larger
and more successful firms.

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 As if the stresses and strains of global competition and
deregulation are not enough, the industry also finds itself in the
midst of a technological revolution.
The technology of information processing and communications
is changing so rapidly that even relatively new techniques for
electronic processing and the transfer of financial information
are quickly becoming outdated.

Bankers can meet most of their customers' service needs today

over distances of thousands of miles via satellite, telephone,
cable, and fax communications supported by high-speed
computers.
The industry is being transformed from labor-intensive
production and delivery methods to increasingly capital-
intensive methods, requiring huge commitments of capital
equipment in order to automate the production and delivery of
financial services.
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The result is a heavy emphasis on growth in bank size in the
belief that banks must be much larger today than in the past if
they are to be efficient and remain competitive.

Today, geography has become less and less a barrier to the

delivery of banking services. Due to advances in information
technology and government deregulation of banking, the
market for banking services will become broader and
broader.

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 Origin of Banking Industry:
The word of bank in Linguistics (the science of language) and
etymology (the study of the origin of words) suggest an
interesting story about banking's origins.

Both the Old French word banque and the Italian word banca
were used centuries ago to mean a "bench" or "money
changer's table." This describes quite well what historians
have observed concerning the first bankers, who lived more
than 2,000 years ago. They were money changers, situated
usually at a table or in a small shop in the commercial district,

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 The first bankers probably used their own capital to fund their
activities, but it wasn't long before the idea of attracting deposits and
securing temporary loans from wealthy customers became an
important source of bank funding.

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 Certainly banks can be identified by the functions (services or
roles) they perform in the economy.
The problem is that not only are the functions of banks changing,
but the functions of their principal competitors are changing as
well.
Indeed, many financial institutions—including leading security
dealers, brokerage firms, mutual funds, and insurance companies—
are trying to be as similar as possible to banks in the services they
offer.
Bankers, in turn, are challenging these nonbank competitors by
lobbying for expanded authority to offer real estate and full-service
security brokerage, insurance coverage, investments in mutual
funds, and many other new services.

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  Accordingly, Banks are those financial institutions that offer the
widest range of financial services—especially credit, savings, and
payments services—and perform the widest range of financial
functions of any business firm in the economy. This multiplicity
of bank services and functions has led to banks being labeled
"financial department stores", a Full-Service Financial
Institution.

 Traditionally, banks play only a narrow role in the economy —

taking deposits and making loans—, but at the present era, the
modern bank has had to adopt new roles in order to remain
competitive and responsive to public needs. Banking's principal
roles today are as follows:

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 1 - The intermediation role: Transforming savings received primarily from
households into credit (loans) for business firms and others in order to make
investments in new buildings, equipment, and other capital goods.

2 - The payments role: Carrying out payments for goods and services on behalf
of their customers (such as by issuing and clearing checks, wiring funds, and
dispensing currency and coin).

3 - The guarantor role: Standing bind their customers to pay off customer debts
when those customers are unable to pay (such as by issuing letters of credit).

4 - The agency role: Acting on behalf of customers to manage and protect their
property or issue and redeem their securities (usually provided through the
bank's trust department).

5 - The policy role: Serving as an instrument or mechanism for

government policy in attempting to regulate the growth of the economy
and pursue social goals.
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 GENERAL PRINCIPLES OF LENDING:
The banker must always keep in mind two important principles.
First, he is lending other people’s money, which he may have to
repay to them on demand, and second, that he is in business, as is
nearly everyone else, in order to make a profit.

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  The perfect banking advance therefore should be:
(1) safe;
(2) liquid; and
(3) profitable.

These requirements will seldom be present together, so that most

of the time the banker is working out an acceptable compromise,
and exercising the art of lending to the end that, on the whole, his
loans will be reasonably safe and reasonably profitable.

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 He lends against a background of principles which will
influence his decision. These are broadly:

He lends against a background of principles which will

influence his decision. These are broadly:
(1) Governmental policy
(2) The policy of the bank
(3) The interests of the community in general
(4) The best interests of the customers.

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