Credit crunch jargon explained
The news has been full of headlines recently of how the banks worldwide are undergoing big changes. So, what’s going on and what does it all mean? We try to make things clearer for you with these questions and answers.
Is my money safe?
What is the Deposit Protection Scheme?
What is the Financial Regulator doing?
What is the Central Bank’s role?
What is the ‘credit crunch’?
What does ‘liquidity’ mean?
What is solvency?
When people talk about credit ratings of banks, what does this mean?
What is the difference between a bank where I have my accounts and an investment bank?
On 30 September, the Government announced guarantee arrangements for certain banks. You can get details of this guarantee and which banks it applies to. The existing deposit protection arrangements remain in place for institutions not covered by the Government guarantee.
What is the Deposit Protection Scheme?
In the event that a bank or building society has been declared insolvent or a liquidator declares that it cannot repay its deposits, the deposit protection scheme would come into effect.
What is the Financial Regulator doing?
The Irish Government set up the Financial Regulator on May 1st, 2003 to regulate financial services firms in Ireland and to protect consumers in their dealings with those firms. The Regulator's main tasks are to:
- help consumers to make informed decisions on their financial affairs;
- monitor financial services firms and make sure they deal fairly with consumers; and
- foster sound, growing and solvent financial institutions.
The Financial Regulator is closely monitoring regulated institutions on a daily basis. You would expect regulators to be doing this in the current climate.
What is the Central Bank’s role?
The role of the Central Bank is to contribute to financial stability. Financial stability is a situation where financial markets, payments and settlements systems and financial institutions function smoothly and can withstand shocks. This involves monitoring the financial system closely. For more information on the Central Bank, log onto www.centralbank.ie
The Financial Regulator and Central Bank work closely together on financial stability issues.
Credit crunch is a general term used to describe a situation where bank credit is less available than before and/or credit becomes more expensive. This applies to credit between banks and from banks to their customers.
The term ‘liquidity’ refers to how easily an investment can be turned into cash. For you, your most liquid investment is probably your current account because you have almost immediate access to your cash. An example of a less liquid asset would be your car because it takes time to sell your car and turn it into cash. If you needed to sell your car to raise money quickly, you would be under pressure and might not get the best possible price for your car.
There are requirements on Irish banks to hold assets with varying levels of liquidity so that they can meet their payment obligations. These assets typically include cash, assets that can be turned into cash relatively quickly and assets that require some time to turn into cash.
An important feature for Irish banks is that as part of the euro area, they have access to liquidity from the European Central Bank.
A bank is considered solvent when the value of its assets is greater than the value of its liabilities. Part of our job as the Financial Regulator is to set and closely monitor rules for banks so that their assets are enough to cover their liabilities with some room to spare.
When people talk about credit ratings of banks, what does this mean?
A credit rating is a label summarising the credit worthiness of an individual or company. Credit ratings are a summary of an institution’s financial history, their current assets, liabilities and their outlook. The credit ratings of banks are maintained by credit rating agencies such as Standard & Poor’s, Moody’s or Fitch Ratings and is based on their own analysis of individual banks. The credit ratings are subject to ongoing review. Some financial institutions have had their credit rating reduced by these agencies. This is not unique to Irish banks as many international banks have had their ratings changed.
What is the difference between a bank where I have my accounts and an investment bank?
Investment banks provide financial services to companies and governments. They don’t usually accept deposits from consumers. Investment banks are different to the retail banks you are familiar with where you have your main bank account and where you might also have savings, a mortgage and/or other loans.