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“TRANSILVANIA” University, Braşov Faculty of Economic Science Business Administration 1st year, 8892 group

(general aspects) - Business Law paper 2009

.......................5 1.........................................4.................................................. DEVELOPMENT.............................................3 1........3.3.......... EVALUATION.. THE TRANSFORMATION OF THE EUROPEAN FINANCIAL SYTEM.4 1.................................................................. DEFINITION AND GENERAL CHARACTERISTICS.......................................7 2......... BIBLIOGRAPHY.2..................4................1........................1......1..10 V.......................................................... FINANCIAL INSTITUTIONS................11 VI............... FINANCIAL MARKET..........................9 IV..................................4 1.............7 II................ BASEL II AND THE CAPITAL REQUIREMENTS DIRECTIVES.....4............................................. INTRODUCING THE EURO: CONVERGENCE CRITERIA.... THE PRESENT FINANCIAL CRISIS......8 III............... RATING AGENCIES......................................3 1........2.Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009 Teacher: ALEXIS DAJ CONTENTS I.................13 2 .................................4 1.................................. FINANCIAL INSTRUMENTS...............4....... STRUCTURE. EVOLUTION............3 1......

and financial flux which assure the movement in time and space of the capital resources from the creditors (or the international investors) to the debtors (or the financing beneficiary). Development EFS’ development was amplified by the economical growth. international domain generated by the commercial and non-commercial operations. European Financial System has a major impact over the economical development and its main roles are:  Financial resources transfer (from those that have surplus funds to those that have deficit funds)  Promotes economical efficiency (low risks and costs)  Puts good use on investments opportunities (funds transfer: low productivity sector-> high productivity sector)  Unwind of payments and incomes flux  Stimulates investments and economies level 1. private law provisions and provisions regarding agreements between institutions. EU’s financial system is based on the following juridical norms: treaties provisions. temporal variation of consumption and separation of business property administration over the capitals.Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009 I.2. 1. instruments. institutions. necessity of taking risks. Some provisions are related to budget domain that was modified through Maastricht Treaty (1st of November 1993). It can be seen also as the set of markets.1. The most important one is mentioned in European Community Treaty. Evolution The evolution steps of International Financial System are the following:  Bretton – Woods Agreement (1944)  Crises period (1960-1970)  “Smithsonian Agreement” or Free Flotation (1973) 3 . DEFINITION AND GENERAL CHARACTERISTICS The International Financial System can be defined as an assembly of norms and techniques settled and accepted on a background which contains institutional regulations that coordinate and organize EU’s members’ behavior in the financial and monetary.

Structure EFS have a main. transactions with credit instruments. private and population.Changing rates remain extremely volatile in EFS .3. IV  Principles adopted in 1977: .1.Each member can try to diminish the possible BPE’s crises . 1. Evaluation A short evaluation of EFS shows us that: .).Weak national currency systems can be absorbed by those that are more powerful 1.Free flotation hasn’t generated a diminished of international commerce and investments . EFS is a combination of currency systems (The European Central Bank (ECB) is responsible for the monetary system of the European Union and the euro currency. small fluctuations for 4 . 1. Financial Market (primary market=new issues of a security are sold to initial buyers.Each member has to avoid monetary market interventions to prevent a possible BPE lack of balance or to obtain an unfair advantage within the frame of international commercial exchanges .Free flotation doesn’t mean a quick setting of commercial fluxes .Crises remain pretty frequent and strong .Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009  Kingstom Jamaica Agreement (1972-1976)  Modification of the art. it’s mandatory to take into consideration members’ interests   Plazza Agreement (1985) Louvre Agreement (1986) At the moment. secondary market=security can be resold by the investors for cash) is divided into: Money Market (very liquid. simple structure which consists of financial transactions on financial markets and through financial institutions.If monetary market changes. between government.4.4.

insurance policies. Disadvantages for indirect financing: 1. companies surviving (competitors. owners of preferred stock receive dividends before common shareholders and have priority in the event that a company goes bankrupt and is liquidated. preferred stocks1.4. Between the investor and debtor can be established 2 types of financial relation: direct financing or indirect financing (through intermediaries). lower risks (some institutions share or cover the financial risks). Credit instruments: commercial papers. export financing). financing condition imposed by the financial institutions. pension funds policies. investment funds participations. international payments. higher fluctuations => high risk). Financial Institutions (Financial Bodies) .2.Services provided by financial institutions • • • • • • • • • 1 selling and buying financial securities. guarantees for financial transactions. financing consultancy. Common stock usually entitles the owner to vote at shareholders' meetings and to receive dividends. bonds. higher operational costs. 5 . historical relations with a financial institution. different financing alternatives. Advantages for indirect financing: • • • • • • • • • • a good information about capital resources. derivatives. clients). lower transaction costs. credits etc Debt and Equity instruments: common stocks. inexistence of a direct contact with financial markets. For example. insurance against financial risks. financial consultancy. Preferred stock generally does not have voting rights. international financing (incl. managerial expertise. financing facilities. banker’s acceptance. but has a higher claim on assets and earnings than the common shares. transactions with debt and equity securities.Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009 the securities prices which implies a low risk) and Capital Market (low liquid. international markets surviving (rating agencies).

Iceland.ensures the smooth operation of payment systems . Unlike commercial banks. Instead.manages the foreign reserves of member countries 6 .does not use any funds from the EU the majority shareholder in the European Investment Fund.) European Investment Fund. a. particularly in the less well-off regions. the EIB does not manage personal bank accounts. The EIB: . candidate countries and the developing active in the member states of the European through banks and other financial intermediaries. .is also responsible for framing and implementing the EU’s economic and monetary policy . in Croatia. It also provides credit for investment by small businesses.Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009 • • portfolio management. The ECB: . a non-profit. conduct over-the-counter transactions or provide private investment advice . b. The EIF: . They subscribe jointly to its capital.) European Central Bank (ECB). It uses either its own funds or those entrusted to it by the EIB or the European Union.makes long-term loans for capital investment projects but does not provide grants . borrowing on the financial markets .works with the other national banks of each of the EU members to formulate monetary policy that helps maintain price stability in the European Union (with the objective of sustained employment and non-inflationary growth) .is owned by the Member States of the European Union. Liechtenstein and Norway c. policy driven not a lending institution (it does not grant loans or subsidies to businesses. nor does it invest directly in any firms) . investment funds management. it is self-financing. It was set up to help small businesses. airports. Its job is to manage the euro – the EU’s single currency. Its job is to lend money for projects of European interest (such as rail and road links.) European Investment Bank. each country’s contribution reflecting its economic weight within the Union . or environmental schemes).

but to some extent are also exogenous or part of global developments. the risk allocation between the participants. progressive steps in the process of European economic integration have laid the foundations for financial market integration. Examples of endogenous changes are: national mergers and acquisitions in banking. 1. although EMU and the introduction of the euro have played a pivotal role in the changes the European financial system has been undergoing. This particular contract establishes (mainly): • • • • • • • • the financing mechanism. the role of each institution / participant in the mechanism. which has.Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009 . However. the increasingly blurring distinction 7 . pension funds participations). insurance policies. as well as from the allocation of euro banknotes in the EU. the amount. the currency. THE TRANSFORMATION OF THE EUROPEAN FINANCIAL SYTEM The European financial landscape has changed dramatically over the last couple of years and the pace of change appears to have moved into a higher gear with the establishment of Economic and Monetary Union (EMU). II. money-market instruments. probably been the most important factor affecting developments in financial markets over the past decades. the European financial system has witnessed a number of remarkable structural changes that partially can be considered as related to or triggered by the European financial integration process. First. Financial Instruments is a contract between lender and borrower. and it can have a direct (includes money and capital market) or indirect character (includes investment funds participations. the maturity.4. the financing cost (interest rate) and the payment method. and securities. globally. A good example are changes that were made possible because of the pace of technological development. the payback of the revenue is derived from interest on investments in foreign-reserve assets. In addition. a host of other factors can be identified that in parallel with the euro contributed to the transformation of the European financial system.

government finances. To a large extent. without devaluing against the currency of any other Member State. the ratio must have sufficiently diminished and must be approaching 60% at a satisfactory pace (interpretation in trend terms according to Article 104(2)). examines compliance with budgetary discipline on the basis of the following two criteria: the annual government deficit: the ratio of the annual government deficit to gross domestic product (GDP) must not exceed 3% at the end of the preceding financial year. in line with this development. The Treaty stipulates: "the observance of the normal fluctuation margins provided for by the exchange-rate mechanism of the European Monetary System. in some countries. There are four of them (price stability." In practice. but they are also influenced by the existence. when drawing up its annual recommendation to the Council of Finance Ministers.) Government finances. the Commission. the establishment of financial conglomerates2. but also the activities in which banks can become involved. for at least two years. not only the ownership of banks. The Treaty stipulates: "The achievement of a high degree of price stability […] will be apparent from a rate of inflation which is close to that of. alternatively. The Treaty stipulates: "The sustainability of the government financial position … will be apparent from having achieved a government budgetary position without a deficit that is excessive …" In practice.) Exchange Rates. If this is not the case.1. b. of rules or laws governing.) Price stability. 8 . 2. Government debt: the ratio of gross government debt to GDP must not exceed 60% at the end of the preceding financial year. must remain close to 3% while representing only an exceptional and temporary excess. c. If this is not the case. these perceptions are dependent upon custom and practice in different countries." The Member State must have participated in the exchange-rate mechanism of the European monetary system without any break during the two years preceding the examination of the situation and 2 There are differing perceptions as to what exactly constitutes a financial conglomerate. the ratio must have declined substantially and continuously and reached a level close to 3% (interpretation in trend terms according to Article 104(2)) or. exchange rates and long-term interest rates): a.Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009 between traditional financial products and financial institutions and. Introducing the Euro: convergence criteria The convergence criteria are presented in Article 121(1) of the Treaty establishing the European Community (EC Treaty). at most. the inflation rate of a given Member State must not exceed by more than 1½ percentage points that of the three bestperforming Member States in terms of price stability during the year preceding the examination of the situation in that Member State. the three bestperforming Member States in terms of price stability.

III. The rating for a given debt issue reflects the agency’s degree of confidence that the borrower will be able to meet its promised payments of interest and principal as scheduled. the nominal long-term interest rate must not exceed by more than 2 percentage points that of. depending on its specific terms. Also. at most.) Long-term interest rates.Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009 without severe tensions. In practice. the three best-performing Member States in terms of price stability (that is to say. Rating agencies also carefully study the terms and conditions of each specific debt issue. both domestic and foreign. the same Member States as those in the case of the price stability criterion). The credit scores that the latter produce for individuals similarly influence the rates of interest at which individuals may borrow. particularly their ability to meet the interest and principal payments on their bonds and other debt. Meanwhile. being reflected in the long-term interest-rate levels".. Investors’ confidence in borrowers’ ability to meet their payment obligations is highly influenced by the rating agencies’ analyses. RATING AGENCIES Rating agencies assess the financial strength of companies and governmental entities. The rating for a given debt issue may differ somewhat from the overall credit rating for the issuer. d. the interest rate demanded by investors on a given debt issue is inversely correlated with the creditworthiness of the borrower: stronger borrowers pay less. 9 . The period taken into consideration is the year preceding the examination of the situation in the Member State concerned. weaker borrowers pay more. Debt issues with the highest credit ratings from the agencies will incur the lowest interest rates. The credit rating agencies perform similar work to consumer credit bureaus. the European Monetary System was replaced by the new exchange-rate mechanism (ERM II). After transition to stage three of EMU.. it must not have devalued its currency on its own initiative during the same period. The Treaty stipulates: "the durability of convergence achieved by the Member State .

The European Commission in October 2008 presented a review of the rules in place. 10 . These had to be applied in the EU and in July 2004. Internationally. Sweden. In June 2004. part of the Bank for International Settlements (BIS).Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009 IV. such as derivatives. corporate bonds and asset-backed securities. Capital adequacy rules set down the amount of capital a bank or credit institution (CI) must hold. the Commission set out proposals for a new Capital Requirements Directive (CRD) which would apply Basel II to all banks. There are all sorts of financial instruments available by which credit institutions can guard against risk. rules are set by the Basel committee. On this committee sit representatives from Belgium. UK. The proposed changes request banks to hold a higher amount of capital against the risk of failure and introduce a new coordinated. Luxembourg. supervisory process for cross-border EU banks. They ensure that these institutions hold a minimum amount of capital. The current EU regime is contained in two directives: Directive 2006/48/EC on the “taking up and pursuit of the business of credit institutions” and Directive 2006/49/EC on the “capital adequacy of investment firms and credit institutions”. The rules are enforced by supervisors who check on how much risk is being run and measure how much capital is required to underwrite that risk. the Basel committee agreed updated rules . This amount is based on risk.Basel II. in October 2008 there were in Europe 44 crossborder institutes. The first set of international rules was known as Basel I. holding two thirds of total EU bank assets. Italy. although cumbersome. CI’s and investment firms in the EU. Germany. Canada. Switzerland. futures. France. The Capital Requirements Directives were adopted in 2006 and are currently under review. Netherlands. Once each bank has been assessed by the supervisors it is given a “risk profile”. Japan and US. Spain. BASEL II AND THE CAPITAL REQUIREMENTS DIRECTIVES Rules on capital requirements are designed to protect savers and investors from the risk of the failure or bankruptcy of banks. According to EU official figures.

As interests start having an upward trend. 2. markets. THE PRESENT FINANCIAL CRISIS The present financial crisis is the outburst of tensions accumulated in time in the banking and financial systems. Expectations of interest rates’ increase. while high risk investors will continue to increase their demand for high interest loans. V. Even before the vote in the Parliament.Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009 The proposal has been agreed by the European Parliament in May 2009 and later by the Council. in order to allow banks to have higher "liquidity buffers" in new crisis. and environment. brewing for a while. and governments in even the wealthiest nations have had to come up with rescue packages to bail out4 their financial systems. allowing financial intermediaries to perform in a relatively undisturbed environment. such as a corporation or a bank. While the initiative still waits for a green light from member states. either because of a shrink in the loan supply or as a result of an increase of loan demand. The global financial crisis. infrastructure. the Council has proposed tougher rules for granting loans in periods of economic growth. Banks become reluctant to grant loans 3 stock market (stock exchange) = a place where stocks. really started to show its effects in the middle of 2007 and into 2008. According to adverse selection and moral hazard. jeopardizing the financial position of the banks. 11 . But reaching stability on financial markets means an undivided attention to all the details concerning institutions. securitization and managers' remunerations. The unusual move reflected the particular conditions of international financial markets hit by the worst crisis since the '30s. bonds. A decline in the assets’ market value means a decline of the value of collateral. or other securities are bought and sold. the financial world has experienced a certain degree of stability. Decline of stock prices. borrowers engaging in low risk investments will renounce contracting loans. large financial institutions have collapsed or been bought out. Most of the 20th century crisis may be set in the following framework: 1. Around the world stock markets 3 have fallen. debtors engaging in risky projects are the most inclined to accept high interest rates. 4 bail out is a term used to describe a situation where a bankrupt or nearly bankrupt entity. the Commission proposed a new review of the directives to take into account risks related to trade books. in order to meet its short term obligations. is given a fresh injection of liquidity. For a considerable time. impeding the lending activity of banks.

4. Bank panic. The financial crisis began in the credit markets. The present crisis determinants are located in a worldwide scenario and are connected in their mostly recurrent part to the unsolved monetary issues. savings are withdrawn. 3. reducing the available lending funds and restraining the economic activity. Increase of uncertainty. as an alternative. high interest loans. As a consequence. Under bank failure the intermediation shrinks. the low level of assets means a decline in the stocks’ price high risk borrowers being induced to accept. But as the financial industry leaves behind one of the most wrenching years in its history. 12 . Moreover. Though the economic financial crisis is far from being solved.Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009 bearing low value collateral thus raising the cost of lending. housing and mortgage and to increasing the cost of debts. investments and consumption shrink reducing the economic activity. it is mandatory that the international community (governments. international financial institutions. The impossibility to solve moral hazard problems leads to more expensive loans reducing investments and aggregate economic activities. market regulators. 5. bankers and policy makers are struggling to see the way out of this mess. Unanticipated reduction of prices inducing a reduction of assets’ value. monetary authorities) must cooperate. and eventually it will end there. The bankruptcy of financial institutions determines a stock crunch and the inability of lenders to judge the quality of borrowers. and no obvious solutions can be given until the last part would have been played.

pdf http://www. EDITURA MERONIA.ase. BIBLIOGRAPHY Books: • • ENCICLOPEDIA UNIUNII (European Central Bank) http://www.Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009 VI.85. 2007 2000 • THE ROMANIAN ECONOMIC JOURNAL THE CURRENT FINANCIAL CRISIS REVISITED.129.ppt+sistemul+financiar+european&cd=1&hl=ro&ct=clnk&gl=ro http://facultate.finint.1.132/search? q=cache:x8w3L0Q_BToJ:www. LILIANA EVA DONATH. THE POST-EURO FINANCIAL SERVICES MARKET IN EUROPE.euractiv.htm (EU Legislation) BOOK) 13 %2520in%2520Sistemul%2520Financiar %2520European.scribd.regielive. BUCUREŞ LAURA MARIANA CISMAS (ONLINE Web Support: (Present Financial Crisis) http://www.html http://www.74/7Omilies-parousiaseis/UplFiles/omilies/secgen/ (Basel II & CRD) http://europa. 14 .about.htm (Rating Agencies) http://encyclopedia.Business Law Paper – European Financial System – Teodora Cristina Stan @ 2009