All the lending I talk about in this chapter has been at the prime rate, which is the interest rate charged to customers who are considered to be of little or no risk of defaulting. In the United States, the prime rate is about 3 percent above the interest rate that banks charge each other, called the federal funds rate. (Some nations use LIBOR, which is the London Interbank Offered Rate.) For those corporations and people who are considered higher risk, they will often qualify for only loans considered subprime, which are offered at interest rates higher than the prime rate.
For a period between the 1980s and 1990s, subprime mortgage lenders were also very common. In fact, they contributed to the 2007 financial collapse, when many commercial banks were venturing into the subprime market with little or inappropriate risk management. Bottom line: Avoid loan sharks and subprime lenders at all costs, or they’ll ruin your finances and the greater economy at large.
Exchanges
Exchanges such as the NASDAQ, NYSE, Nikkei, and others are globally renowned for being open forums for ferocious trading. In both stock and commodities exchanges, the most recognized space is called the pit, or trading floor, and it’s where large numbers of brokers and dealers shout and scream at each other, buying, selling, and trading shares of this or that. Of course, computers are now replacing much of this in-your-face activity. Even on the trading floor itself, computers are becoming ever present, while the number of people who vigorously declare their intentions to anyone within a two-mile radius is quickly shrinking. The function of the exchanges themselves is more about providing a place for these trading activities to occur than anything, making them increasingly irrelevant with modern technological advances in investing transactions.
Regulatory bodies
Numerous regulatory bodies oversee corporate finances and financial institutions, and each one warrants its own book (in fact, the role and regulations encompassing each regulatory body span volumes of books of information). I obviously can’t fit all that information in this book, so I just cover the basics of the main regulatory bodies here. Armed with their names and main purposes, you can do a quick online search to find out more about the ones that interest you most.
Securities and Exchange Commission (SEC): Sets the standards for corporate public financial reporting, the rules for investment, and the regulations for securities exchanges
Internal Revenue Service (IRS): Handles all tax reporting, tax accounting, tax collection, and pretty much all taxation issues other than determining the tax rates
Financial Industry Regulatory Authority (FINRA): A nongovernmental organization that’s in charge of setting and enforcing regulations among its member groups, which include brokerage firms and exchange markets
Commodity Futures Trading Commission (CFTC): The government body that regulates derivatives trading
Federal Deposit Insurance Corporation (FDIC): One of the few private corporations owned by the United States; sells insurance to depository institutions, ensuring that the deposits of each person be insured up to $250,000 in the event that something happened to the institution
Office of the Comptroller of Currency (OCC): Part of the U.S. Treasury; regulates all national commercial banks
National Credit Union Administration (NCUA): A government-backed organization that regulates credit unions
American Institute of Certified Public Accountants (AICPA): The professional organization that regulates all certified public accountants
Chartered Financial Analyst Institute (CFAI): The professional organization that regulates all chartered financial analysts
Financial Accounting Standards Board (FASB): A nonprofit organization that creates the generally accepted accounting principles (GAAP) that are used for all public accounting in the United States.
Government Accounting Standards Board (GASB): The non-profit organization that regulates the accounting of state and local governments
Federal Accounting Standards Advisory Board (FASAB): An advisory committee that regulates accounting standards for the U.S. federal government
Financial Accounting Foundation (FAF): The organization that provides oversight and regulation for other regulatory and professional bodies such as the AICPA, CFAI, and GASB
These are just U.S. regulatory bodies. Many more bodies provide oversight and regulation around the world. Plus, many nations are beginning to adopt international accounting standards (IAS), which may limit the need for individual national accounting standards; however, the standards boards will likely remain in most nations even after they adapt IAS. Looking at all the regulatory bodies that regulate other regulatory bodies, I believe that the industry as a whole may welcome some streamlining — not less regulation, necessarily (that’s a far more complicated debate), but less bureaucracy.
Federal Reserve and U.S. Treasury
I’ve heard a lot of conspiracy theories about the Federal Reserve in my days in corporate finance. Even among a small minority of fringe economists (namely, the Austrian school of macroeconomics), a lot of people misconceive the actual role of the Federal Reserve. These misconceptions and conspiracy theories are a little odd, considering the actions of the Federal Reserve are all quite transparent. Its reports are all available for public view, its actions are all over the news each day, and the public can even see its hearings on TV sometimes. The Fed, as it’s often called, actually has very limited power, so some of the conspiracies that exist tend to be nothing more than fantasy.
In contrast, the U.S. Treasury is practically immune to conspiracy because it’s just an arm of the bigger federal government. The corruption usually exists among those with higher authority (the Treasury isn’t really a decision-making body). The following sections take a brief look at each of these government entities.
Federal Reserve
The Federal Reserve isn’t a part of the federal government at all. It’s quasi-governmental, which means it performs functions related to managing the U.S. economy in cooperation with the government but isn’t actually under the direct control of any government body. Think of the Federal Reserve as the bank that other banks go to when they need banking services.
The Fed accepts deposits, makes loans to member banks, and facilitates loans between banks using the deposits. It also determines interest rates for certain key loans and the bank reserve requirement, which is the proportion of total deposits that commercial banks must keep available as liquid cash. Bank reserve requirements are used to manage bank liquidity for customer withdrawals and to manage the supply of money in the nation
