Introduction to Finance

H O W T H I S C H A P T E R A P P L I E S TO M E . . .
You probably have a checking account at a depository institution. You may also have a sav-
ings account or own some shares in a mutual fund. You may even have a loan on an auto-
mobile or a home mortgage. Each of these activities requires an interaction with a fi nancial 
institution. After reading this chapter you should have a better understanding of what depos-
itory and other fi nancial institutions do in carrying out the savings-investment process and 
how banks operate and are managed.
Webster’s New English Dictionary defi nes 
bank
as,
an establishment for the deposit, custody, and issue of money, for making 
loans and discounts, and for making easier the exchange of funds by checks, 
notes, etc.
Webster’s also defi nes 
bank
as,
the funds of a gambling establishment; the fund or pool by the banker or dealer 
in some gambling games.
Most of us associate the fi rst defi nition with our perception of banks and banking in the United 
States. However, there have been examples throughout history and even recently where the 
second defi nition seems to fi t. For example, isolated fraudulent behavior on the part of some 
commercial bank and savings and loan association (S&L) offi
cers has resulted in criminal 
indictments and even in prison sentences. Overall, of course, banks and other fi nancial insti-
tutions have performed admirably well in getting savings to investors and contributing to an 
effi
cient fi nancial system.
3.1
Financial Institution Problems During 
the Financial Crisis
CRISIS
Homeowners typically fi nance a portion of the purchase of their houses with mortgage 
loans. A 
mortgage
is a loan backed by real property in the form of buildings and houses. 
Banks and other mortgage lenders engaged during the decade of the 2000s in “pooling” 
together loans they originated into securities. Other fi nancial intermediaries also “repack-
aged” mortgage loans into mortgaged-backed securities. A