Defined contribution schemes 

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Defined contribution schemes

Defined contribution schemes are the opposite, in that the contribution per­centages rarely change. They build up a fund which is used to buy an annuity when the employee retires. Their other name is a 'money purchase' scheme and. typically, they are provided by life assurance companies for smaller firms. Personal pensions are a type of 'money purchase' pension, as are AVCs taken out after 1988. Recently, some of the retail banks have instituted defined contribution schemes for their new employees; other employers may follow. There is less chance of a money purchase scheme becoming underfunded, because contributions rise in line with inflation, and benefits are not linked to inflation or salaries.


Hybrid schemes

Hybrid schemes, incorporating features of both the oilier schemes, have be­come fairly common in the USA, but were rare in the UK. However, in July 1996, Glaxo-Wellcome introduced the first combined final salary and money purchase scheme offered by a major company in the UK, following a merger of the two companies. Existing employees will have a choice between the two schemes, with an option to swap; new employees will have to join the money purchase scheme, although they can switch into the final salary scheme at the age of 40. The 'sponsors' of the schemes are a merchant bank for the defined benefits scheme and the Equitable Life Assurance Society for the de-lined contribution scheme.


Unit trusts

Unit trusts are long-term investment products sold by managers to investors, often with charges of up to 5% of the purchase price. Investors in unit trusts are usually private people but, from Tables 2.4 and 2.5, it is apparent that insurance companies had £29.9bn invested in unit trusts at the end of 1994. In many cases, these investments were in unit trusts which the companies managed. Managers of unit trusts are specialist companies, such as M & G or Save and Prosper, or banks and insurance companies: they play an active role in selling the units to investors, investing the proceeds and finding the cash to repay investors wishing to withdraw (sell their units back to the managers). In addition, there is always a second financial institution involved in a unit trust - acting as trustee and holding the investments (assets) on behalf of the unit-holders (as investors are called). The advantages of unit trusts are prin­cipally that risks arc pooled and that specialist managers should enhance investors' returns.

There are more than 1,400 unit trusts, with one manager sometimes run­ning 10 or more unit trusts. In the USA, managers often permit 'switching' between unit trusts in the same group - known as a 'family of funds'. This term is little used in the UK, where a different practice has evolved - a ‘fund of funds', which is a unit trust which invests in a number of other unit trusts, often but not always from the same group. In December 1994, the assets of unit trusts totalled £87bn. but greater sales of units to investors, and rising prices for their investments had increased the value of assets to well over £120bn by April 1996.

Unit trusts are 'open ended' funds, i.e. if investors buy more units, then the managers issue more units and buy more assets: if investors sell back their units, the managers have to repay the sellers from their cash balances, cancel the units and, possibly, sell some of the long-term investments to top up the short-term assets.

Unit trust prices are published by the managers, who calculate them from the market values of the shares held by a trust divided by the number of units in existence. Hence, a fall (rise) in the price of a unit is due to a fall (rise) in the prices of the shares which the unit trust owns. At present, managers quote two prices - bid and offer - for their units, but it is planned to introduce single pricing soon.

The assets of unit trusts are shown below. Note that the short-term borrowings are shown separately, unlike the data for insurance companies and pension funds.


Investment trusts

Investment trusts have a similar name to unit trusts, and they also pool in­vestments managed by specialists. However, the similarities end there. Investment trusts are much older - starting in 1868 compared to 1935; they are subject to lower charges and they are 'closed ended' funds. This means that, if people want to buy more of them, and because their quantity is limited then their share prices can rise above the value of the assets they own.

In brief, investment trusts are limited companies which invest in other limited companies. Most of them are quoted on the stock exchange: there are over 300 investment trusts. Investors buy and sell them through stockbrokers (they buy and sell unit trusts through the managers). In the financial pages, their share prices are shown along with a column showing the percentage premium or discount of the share price to the net average value of a share (NAV).

Investment trusts can borrow long term so as to invest in more assets, rather than asking the shareholders for more money. However, because the number of shares is fixed (hence their name of 'closed funds'), the share price can vary more sharply than the price of the underlying assets. The price can fall to a discount below the NAV. In fact, this is common with investment trusts.


X. Find the terms which match the following definitions:


merchant banks; financial intermediary; unit trust; retail banking; financial institution; building society; wholesale banking; discount house; clearing bank; overseas banks


1. An investment organization that invests funds subscribed by the public in securities and in return issues units that it will repurchase at any time.     ___________
2. A person or firm, other institutions that hold money balances, or borrow from individuals and other institutions in order to make loans or other investments.     ___________
3. The activities of the commercial banks carried out with the general public and business enterprises.   ___________
4. Institutes that carry out a variety of financial services including acceptance of exchange? the issue and placing of loans and securities, portfolio and unit trust management, foreign exchange dealing and some banking services.   ___________
5. A financial institution in the city of London founded originally (early 19 century) to act as broker for the acceptance by banks of bills of exchange.     ___________
6. The group of major commercial and public organizations engaged in exchanging, lending, borrowing and investing money. The term is often used as an alternative for financial intermediaries.   ___________
7. A UK financial institution engaged in the provision of mortgages driving its funds from deposits by the general public.   ___________
8. The making of loans or acceptance of deposits between banks and other financial institutions especially in the interbank market.     ___________
9. The banks which deal with the offsetting of liabilities and sales between two parties. Member of the London Banker’s Clearing House now used synonymously with commercial banks.     ___________
10. Banks operating in the UK but foreign controlled; UK owned banks that conduct their business mainly abroad.   ___________







Text A.


Federal Reserve Banks were established by Congress as the operating arms of the nation's central banking system. Many of the services provided by this network to deposi­tory institutions and the government are similar to services provided by banks and thrift institutions to business customers and individuals. Reserve Banks hold the cash reserves of depository institutions and make loans to them. They move currency and coin into and out of circulation/ and collect and process millions of checks each day. They provide checking accounts for the Treasury, issue and redeem government securities, and act in other ways as fiscal agent for the U.S. government. They supervise and examine mem­ber banks for safety and sound­ness. The Reserve Banks also participate in the activity that is the primary responsibility of the Federal Reserve System, the setting of monetary policy.

For the purpose of carrying out these day-to-day operations of the Federal Reserve System, the nation has been divided into twelve Federal Reserve Districts, with Banks in Boston, New York, Philadel­phia, Cleveland, Richmond, Atlanta, Chicago, St. Louis, Minneapolis, Kansas City, Dallas, and San Francisco. Twenty-five Branches of these Banks serve par­ticular areas within each District. The map shows locations of the Reserve Banks and their Branches, along with District boundaries and assigned District numbers.

Ø Federal Reserve Bank city:

Boston, New York, Philadelphia, Cleveland, Richmond, Atlanta, Chicago, St.Louis, Minneapolis, Kansas City, Dallas, San Francisco.

Ø Board of Governors of the Federal Reserve System, Washington, D.C.

Ø Federal Reserve Branch city, by District:

Buffalo; Cincinnati, Pittsburgh; Baltimore, Charlotte; Birmingham, Jacksonville, Miami, Nashville; Detroit; Little Rock, Louisville, Memphis; Helena; Denver, Oklahoma City, Omaha; El Paso, Houston, San Antonio; Los Angeles, Portland, Salt Lake City, Seattle. District boundaries change periodically.


Organization of the Banks

Federal Reserve Banks operate under the general supervision of the Board of Governors in Washington, D.C. Each Bank has a nine-member Board of Directors that oversees its opera­tions.

Federal Reserve Banks generate their own income, primarily from interest earned on government securities that are acquired in the course of Federal Reserve monetary policy actions. A secondary source of income is derived from the provision of priced services to depository institutions, as required by the Monetary Control Act of 1980. Federal Reserve Banks are not, however, operated for a profit, and each year they return to the US Treasury all earnings in excess of Fed­eral Reserve operating and other expenses.


Monetary Policy Role

The primary responsibility of the central bank is to influence the flow of money and credit in the nation's economy. The Federal Reserve Banks are involved in this func­tion in several ways. First, five of the twelve presidents of the Federal Reserve Banks serve, along with the seven mem­bers of the Board of Governors, as mem­bers of the Federal Open Market Com­mittee (FOMC). The president of the Fed­eral Reserve Bank of New York serves on a continuous basis; the other presidents serve one-year terms on a rotating basis. The FOMC meets periodically in Wash­ington, D.C., and determines policy with respect to purchases and sales of govern­ment securities in the open market, ac­tions that in turn affect of the availability of money and credit in the economy.

Second, the boards of directors of the Federal Reserve Banks initiate changes in the discount rate, the rate of interest on loans made by Reserve Banks to deposi­tory institutions at the "discount win­dow." Discount-rate changes must be approved by the Board of Governors. All depository institutions that are subject to reserve requirements set by the Federal Reserve-including commercial banks, mutual savings banks, savings and loan associations, and credit unions—have ac­cess to the discount window.

Each Federal Reserve Bank has a re­search staff to gather and analyze a wide range of economic data and to interpret conditions and developments in the economy. This research assists the FOMC in the formulation and implementation of monetary policy. It also contributes to informed decision making by the Federal Reserve Banks in bank supervisory mat­ters and other areas. Most Reserve Banks publish a monthly or quarterly journal devoted to basic research and analysis of current economic issues in their District.

Supervision and Regulation

In addition to its money and credit responsibili­ties, the Federal Reserve has broad super­visory and regulatory authority over the activities of state-chartered member banks and bank holding companies, including their foreign activities and Edge corpora­tions, and foreign banks operating in the United States. It is also charged with writing regulations for the major federal consumer credit laws.

Some of these supervisory responsibili­ties are delegated to the Reserve Banks by the Board of Governors. These responsi­bilities include the conduct of field ex­aminations and inspections of state-char­tered member banks, bank holding com­panies, and foreign bank offices in this country and the authority to approve cer­tain types of bank and bank holding com­pany applications.

Government Services

The Federal Reserve System, through the Reserve Banks, performs various services for the U.S. Treasury and other government, quasi-government, and international agencies. Each year, billions of dollars are deposited to and withdrawn by various government agencies from operatingaccounts in the U.S. Treasury held by the Federal Reserve Banks.

The Federal Reserve Banks hold, in their vaults, collateral for government agencies to secure public funds that are on deposit with private depository institu­tions. In addition, Reserve Banks receive for deposit to the Treasury's accounts such items as federal unemployment taxes, individual income taxes withheld by payroll deduction, corporate income taxes, and certain federal excise taxes.

The Federal Reserve Banks also issue and redeem instruments of the publicdebt, such as savings bonds and Treasury securities. They have certain responsi­bilities for allotment and delivery of government securities and for wire transfer of securities. In addition, the Reserve Banks make periodic payments of interest on outstanding obligations of the U.S Treasury, federal agencies," and government-sponsored corporations.


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