FINANCIAL ENVIRONMENT (FINANCE SYSTEM)

1. Participants of Finance

Main participants of finance are individuals and households, businesses, and government. Sometimes they are deficit units sometimes they are surplus units. A household may be a deficit unit if its consumption exceeds its income. A business may be a deficit unit if it is short of cash for payments or investment. Government may be a deficit unit if there is a budget deficit (if the expenditures exceed income). Deficit units demand funds from the finance system. A household may be a surplus unit if it saves money. A business or government is surplus unit if they have excess cash. Surplus units supply funds to the finance system by investing their savings and excess cash. Government investments are subject to laws and regulations. But a business may invest its excess cash in any investment alternative.

Financial environment is a system that transfers money from the surplus units to the deficit units. That is why from now on we will use finance system instead of financial environment.

There are institutions and markets that facilitate the transfer of money from surplus units to deficit units in a finance system. For example, a household (surplus unit) invests its savings into a bank account and another household or a business that needs money (deficit unit) takes out a consumer or business loan from the bank. So the bank (a financial institution) acts as an intermediary in facilitating the transfer of money from surplus units to deficit units. There are also regulations and supervision in a finance system. The role of the regulations and supervision is to facilitate the transfer of funds and to protect the investors. Regulations and supervision are accomplished by the regulatory and supervisory agencies.

The health of a financial system is measured by how efficient the funds flow from surplus units to the deficit units.

2. Turkish Finance System

There are financial institutions in Turkey and there is a capital market. First, we will see the capital market, then we will study financial institutions. Bu we can say that Turkish Finance System is dominated by the banks.

2.1. Capital Market

Capital market is a market where the government and businesses get funds from general public. General public refers to all the investors, individual or institutional. Government and businesses get funds from the capital market by issuing securities (financial instruments). Issuing securities means selling the securities in return for money. Sellers of the securities are called issuers. Only the government and corporations can be issuer. Other forms of businesses cannot issue securities. Buyers are called investors. Individuals and institutions can be investors. Issuers are deficit units, investors are surplus units. Special institutions act as intermediary between the issuers and investors. These institutions are discussed later in this chapter. Capital markets are regulated and supervised by the Capital Market Board.

There are two types of markets: Primary markets and secondary markets.

Primary Markets: Primary markets are the markets where newly issued securities are traded (sold by the issuers and bought by the investors). New funds are raised from the primary markets. Funds from the sale of securities in the primary market go to the issuers.

Secondary Markets: Secondary markets are the markets where existing securities (securities that have already been issued in the primary markets) are traded between the investors. In other words, investors sell and buy already issued securities between themselves in the secondary markets. Issuers are not involved in the secondary markets, so they don’t raise funds in the secondary markets. In the secondary market, investors that sell the securities receive money from the investors that buy the securities.

We should point out that in Turkey there is a developed government debt securities market. Government raises almost all the needed funds from the capital market by issuing government debt securities. But the raising of funds from the capital markets by the corporations is not at a desired level and very limited.

2.2. Banks

Banks are the main financial institutions in Turkey. Individuals and households get the necessary funds from the banks. Businesses mostly get the necessary funds from the banks too. As we indicated above, corporations also prefer raising the funds from the banks as opposed to raising the funds from the capital markets by issuing securities. We can say that the Turkish Finance System is dominated by the banks. For example in the United States, capital markets are as important as the banks. In the United States corporations raise their funds mostly from the capital market by issuing securities. Types of banks in Turkey are explained below.

2.2.1. Central Bank

Central Bank has several functions. These functions will be explained below.

First of all Central Bank has the right of printing the money (banknotes). Coins are printed by the Treasury.
Central Bank is responsible for the monetary policy. Since monetary policy is the subject of economics courses, we will not discuss monetary policy and monetary policy tools here.
Central Bank is the bank of the government. According to the regulations government keeps its money in the Central Bank. However, government cannot take out a loan from the Central Bank.
Central Bank is also the bank of other banks. Central Bank may borrow from other banks and lend to other banks. Central Bank is the lender of last resort. Banks may deposit their excess money into the Central Bank and receive interest. If a bank deposits money into the Central Bank, Central Bank borrows money from the bank. Banks also keep deposits similar to demand deposits in the Central Bank for other purposes. Central Bank also lends money to other banks at an interest. Maturity of Central Bank lending is generally overnight and one week. Sometimes the Central Bank lends for a month. One week lending interest rate is called “policy interest rate” and determined by the “Central Bank Monetary Policy Committee”. Other rates are also determined by the same Committee.
Central Bank operates Electronic Fund Transfer (EFT) System, Electronic Security Transfer System (EMK), and oversees Check Clearing Houses.

2.2.2. Deposit Banks

Deposit banks collect deposits. Individuals, households, and businesses may deposit money into the deposit banks. There are three main categories of deposit accounts, which are demand deposit accounts, time deposit accounts, and checking accounts. Checking accounts are used to make check payments. Time deposit accounts pay interest. A portion of the deposits belonging to individuals and households is insured by the government.

Deposit banks raise the funds mostly from the deposits. They may also borrow from the Central Bank, issue securities in the capital market, borrow from other banks and financial institutions to raise funds.

They use their funds to originate consumer and business loans, buy government debt securities (when they buy government debt securities they actually lend money to the government), and lend to other banks. They also deposit their excess funds into other banks and Central Bank.

Deposit banks have a wide branch network. They are the most common type of banks in Turkey.

2.2.3. Participation Banks

Participation banks are interest free financial institutions. They neither receive interest nor pay interest. The funds they receive are not called deposit. There are two types of accounts in a participation bank, which are current account and participation account. Current account is similar to a demand deposit account. The money from this account can be withdrawn anytime. Current account does not provide any return to the account owner. Participation accounts pay a share to the account owner. The share is the share of the profit earned by the bank. If the bank has a loss, then this loss is also reflected to the account owner. In that sense, the owners of the participation accounts share the profit and the loss. Current and participation accounts are collectively called “participation funds”. A portion of the accounts in the participation banks belonging to individuals and households is also insured by the government.

Participation banks provide interest free financing to individuals, households, and businesses. Instead of interest they receive late charge. In other words, participation banks buy the goods and services in cash and sell them to individuals, households and businesses on account, and charge for the late payment. Participation banks also buy interest free securities. In a participation bank a trade (purchase of goods and services) must be involved.

Participation banks have also a wide branch network.

2.2.4. Development and Investment Banks

They can’t collect money in terms of deposits, current accounts, and participation accounts. They raise their funds by issuing securities in the capital markets and by borrowing from other financial institutions. Investment banks in Turkey are different from the investment banks in Europe and the USA. They don’t engage in traditional investment banking activities. Both development banks and investment banks in Turkey use their funds to originate loans. They grant loans to individuals, households and businesses. But mostly they grant loans to businesses. Their business loans are generally long-term and in high volume. Their intermediation activities in the capital markets (traditional investment banking activities) are very limited. They don’t have many branches. There are very few development and investment banks in Turkey.

2.3. Non-bank Financial Institutions

Non-bank financial institutions are factoring companies, leasing companies, and consumer finance companies. Factoring companies are engaged in factoring transactions, leasing companies are engaged in leasing transactions. In other words, factoring companies provide financing to the businesses through factoring; leasing companies provide financing to the businesses through leasing. Factoring and leasing will be discussed in detail in the second course of finance (MAN 306) in the next semester.

Consumer finance companies provide consumer loans for specific purposes. Usually auto manufacturers (such as fiat, Volkswagen, Peugeot, etc.) and household durables manufacturers (such as Koç Holding) establish finance companies to facilitate the sale of their products. They also grant real estate loans.

Factoring companies, leasing companies and finance companies raise funds by issuing securities in the capital markets and by borrowing from other financial institutions.

Banks and non-bank financial institutions are regulated and supervised by the Banking Regulation and Supervision Agency.

2.4. Capital Market Institutions

Capital Market Institutions are engaged in capital market activities. Capital market institutions are briefly described below.

Investment Institutions: Intermediary institutions and banks are collectively called investment institutions. Intermediary institutions perform the traditional investment banking activities in Turkey. They intermediate the issue and trading of the securities. They act as intermediary between the issuers and the investors in the primary market and act as intermediary between the investors in the secondary market. Banks cannot intermediate in the stock market, but they can intermediate in other securities markets.
Collective Investment Institutions: They manage portfolios on behalf of their participants and shareholders. They are called collective investment institutions because they collect funds from their participants and shareholders and use the funds to make investment on their behalf. Investment trust is one type of collective investment institution. They must be established as a corporation. They raise funds by issuing stock. They invest the funds in portfolios consisting of securities or real estate. Another type of collective investment institution is mutual fund. Mutual funds raise the funds by issuing fund units and invest these funds into portfolios consisting of securities, relal estate or precious metals. Mutual funds must be established and their portfolios must be managed by portfolio management companies. Portfolio management companies are established as corporations.
Exchanges: They are institutions established in the form of corporations that operate markets in which securities, precious metals, and other instruments are traded (sold and bought).

There are also other capital markets institutions. But we are not going to mention them here. Capital market institutions are regulated and supervised by the Capital Markets Board.

2.5. Insurance Companies

There are two groups of insurance, which are life insurance and non-life insurance. An insurance company may operate only in one group of insurance. There are also pension companies. Pension companies manage pension funds. Pension companies may also provide life insurance and personal accident insurance policies. Insurance companies collect insurance premiums from policyholders.

Insurance companies are regulated and supervised by the Undersecretariat of Treasury.

Glossary

Intermediary: Aracı

Regulations and supervision: Düzenlemeler ve denetim (gözetim)

Regulatory and Supervisory Agencies: Düzenleyici ve Denetleyici Kuruluşlar.

Capital market: Sermaye piyasası

Security: Menkul kıymet

Financial instrument: Finansal araç

Issue: Menkul kıymet (finansal araç) ihraç etmek

Issuer: İhraççı

Capital Markets Board: Sermaye Piyasası Kurulu (SPK)

Borrow: Borç almak

Lend: Borç vermek

Electronic Security Transfer (EMK) System: Elektronik Menkul Kıymet Transfer Sistemi

Oversee: Gözetmek

Check Clearing House: Çek takas odası

Deposit Banks: Mevduat bankaları

Originate a loan: Kredi açmak (kredi vermek)

Branch: Şube

Participation Banks: Katılım bankaları

Interest free: Faizsiz

Current account: Özel cari hesap

Participation account: Katılım hesabı

Participation funds: Katılım fonları

Share: Kar payı

Late charge: Vade farkı

In cash: Peşin

On account: Vadeli

Development banks: Kalkınma bankaları

Investment banks: Yatırım bankaları

Factoring companies: Faktoring şirketleri

Leasing companies: Finansal kiralama şirketleri

Consumer finance companies: Tüketici finansman şirketleri

Banking Regulation and Supervision Agency: Bankacılık Düzenleme ve Denetleme Kurumu (BDDK)

Investment institutions: Yatırım kuruluşları

Intermediary institutions: Aracı kurumlar

Investment trust: Yatırım ortaklığı

Mutual fund: Yatırım fonu

Fund unit: Yatırım fonu katılma payı

Portfolio management company: Portföy yönetim şirketi

Exchange: Borsa

Insurance companies: Sigorta şirketleri

Life insurance: Hayat sigortası

Non-life insurance: Hayat dışı sigorta.

Pension companies: Emeklilik şirketleri

Pension fund: Özel emeklilik fonu

Personal accident insurance: Ferdi kaza sigortası

Policy: Poliçe

Insurance premium: Sigorta primi

MAN305

Business Finance I

Chapter 2

Glossary