Enron scandal Essay Example for Free

Enron scandal Essay Enron shocked the world from being â€Å"America’s most innovative company† to Americas biggest corporate bankruptcy at its time. At its peak, Enron was Americas seventh largest corporation.From the 1990s until the fall of 2001, Enron was famous throughout the business world and was known as an innovator, technology powerhouse, and a corporation with no fear. The sudden fall of Enron in the end of 2001 shattered not just the business world but also the lives of their employees. Enron gave the illusion that it was a steady company with good revenue but that was not the case, a large part of Enron’s profits were made of paper. Their huge debts and information about hiding losses gave a big problem to the company and in the late 2001 Enron declared bankruptcy under Chapter 11 of the United States Bankruptcy Code. Kenneth Lay (Founder and CEO), Jeffrey Skilling (CEO) and Andy Fastow (CFO) found that Enron wasnt making money so what they did is implemented along with the approval of Arthur Andersen the future value accounting. This type of accounting was to predict the future profit that Enron was going to make and list it as part of there future profit to the shareholders. This creative accounting lead to Fastow to create outside companies that were directly involved with Enron to hide the losses the companies made. These companies were named after Star Wars characters. As Enron announced big numbers to Wall Street, people began to take notice of this company and started to buy shares of the company. Enron even encouraged their employees to buy shares of Enron and the price of Enron was going up to as high as $90. Enron executives were bullies to the investment companies. When a financial adviser questioned their firms regarding Enron stock, Enron would pay the firm to get rid of the employee. As Enron got bigger, the company was collecting more losses and hiding them well. Enron hit the top when their stock hit $90 and then things were starting to fall apart. A writer at Forbes magazine called Enron tell ing them that she was going to release an article about Enron and not releasing their financial statements. Enron executives flew to New York telling her not to release the article but the next week, Forbes released the article questioning Enrons financial.

Christopher Columbus Essay -- Christopher Columbus Essays

Christopher Columbus was an Italian navigator who sailed west across the Atlantic Ocean in search for the all-water route to Asia, but instead achieved fame for making landfall in the Caribbean Sea. Columbus was born in Genoa, Italy. His father was a weaver, and it is believed that Columbus entered this trade as a young man. In the mid-1470s he made his first trading voyage to the island of Khios, in the Aegean Sea. Settling in Lisbon, where his brother Bartholomew was working as a cartographer, he was married in 1479 to the daughter of the governor of the island of Porto Santo. In December, the Santa Maria was wrecked off the coast of Espanola.The Nina, with Columbus in command, and the Pinta began the homeward voyage in January 1493. After storms drove the ships first to the Azores and then to Lisbon, Columbus arrived in Palos, Spain, in March. He was enthusiastically received by the Spanish Monarchs. Columbus planned immediately for a second expedition, with about 1500 men, which left Spain in September 1493. They landed on the island of Dominica, Gaudeloupe. His stop at Puerto Rico is the closest he came to setting foot on land that would later form part of the United States, the main foundation for the claim that Columbus â€Å"discovered America.† When Columbus returned to Isabella on September 29, he found that serious dissension had developed among the colonists, a number of whom were already on the route to Spain to press their grievances. One of the major...

Layoff and Strategic Downsizing Decisions Essay

INTRUDUCTION Downsizing is a permanent reduction of workforce through layoffs and other means. Organizations usually downsize to save payroll costs and prevent bankruptcy during tight economic conditions. Downsizing, when done right, makes the organization more efficient, lean, and mean .On the other side, a faulty approach to downsizing can cause the organization to run the risk of losing key talent and intellectual capital, and becoming dysfunctional by breakdown of hierarchies and systems. The criteria adopted for who stays and who goes largely determines the success of the downsizing intervention Many organizations, especially traditional ones, in a bid to ensure impartiality and objectivity adopt the LIFO or â€Å"Last in First Out† principle whereby those who joined the organization last become the first to leave. The rationale of making seniority the basis of downsizing is that newer employees have spent less time in the organization and are less committed or acquainted with the fin er nuances of its running. Also, the organization would have invested lesser time and resources training such employees compared to older employees. other organizations make the combination of competence and performance, or the ability to do required tasks well, the basis of retaining an employee during downsizing. A fresh performance appraisal should precede downsizing, or the last appraisal can be the basis for determining who goes and who stays. Those at the bottom of the appraisal list usually get the layoff notice first. While making performance the primary selection criteria for downsizing and restructure is apparently a just and equitable method, two major concerns remain The soundness and objectivity of the performance appraisal method adopted. A poorly designed performance appraisal method that does not assess the true indicators of performance might churn up a wrong list, causing the danger of the organization dispensing with true performers and retaining people who cleverly mask or cover up their in efficiencies. Whether the performance or competence ofthe employee remains relevant for the organization. The expendability of the person to the organization is another sound basis for determining the selection criteria for downsizing and restructure. This approach primarily considers the value added by the employee to the organization more than any other factor. Regardless of the performance of an  employee, an employee might remain critical for the functioning of the organization, or conversely not needed. For instance, with technology taking roots, most companies do not require specialist stenographers or typists, no matter how skilled or efficient they may be in their work. Similarly, closing down the marketing arm of the business and outsourcing the marketing effort might lead to the lay-off of all marketing executives, no matter how skilled or successful they may be. Organizations would, however, do well to identify people with good generic skills, and the right attitude and commitment, and retain them in other jobs even if the jobs they remain competent in become irrelevant to the organization. The commercial interests of the organization notwithstanding, legal considerations play an important role in determining who goes and who stays during downsizing. The federal Worker Adjustment and Retraining Notification Act (WARN) requires employers to give employees, state and local officials a 60 days’ notice to mass layoffs when reducing their workforce by 33 percent or more, or laying off 500 employees within a 30-day period. WARN further requires employers of unionized employees to give the union 60 days’ notice before lay-off of their members, and provide individual notice to non-unionized employees. DEFINITION OF DOWNSIZING Downsizing occurs when a company permanently reduces its workforce. Corporate downsizing is often the result of poor economic conditions and/or the company’s need to cut jobs in order to lower costs or maintain profitability. Downsizing may occur when one company merges with another, a product or service is cut, or the economy falters. Downsizing also occurs when employers want to â€Å"streamline† a company – this refers to corporate restructuring in order to increase profit and maximize efficiency. Downsizing results in layoffs that are often followed by other restructuring changes, such as branch closings, departmental consolidation, and other forms of cutting pay expenses. In some cases, employers are not fired, but instead become part-time or temporary workers (to trim costs). ACTIVITIES OF DOWNSIZING It undertaken to improve organizational efficiency, productivity and competitiveness that affect the size of the firm’s workforce the costs and  the work processes. DOWNSIZING STRATEGIES: There are 3 types of strategies. These are below: 1.workforce reduction: 2.work redesign 3.systematic change 1. Workforce reduction: Typically a short term strategy aimed at cutting the number of employees through such programs as attrition, early retirement or voluntary severance packages and layoffs or terminations. Whils a number of these approaches allow for a relatively quick reduction of the workforce, the problem is that their impact is often short term and in many organizations. 2. Work redesign: Often a medium-term strategy in which organizations focus on work processes and assess whether specific functions, products and services should be changed or eliminated. this strategy which is frequently combined with workforce reduction, includes such things as elimination of functions, groups or divisions. 3. Systematic change: Long term strategy characterized by changing the organizations culture and the attitudes and values of employees with the ongoing goal of deducting costs and enhancing quality. By its very nature this strategy takes considerable time to implement. RESTRUCTURING HOW COMMON IS WORKFORCE REDUCTION AND?: The issue that comes up regularly involves how common workforce reduction in Canada. In a national study of major Canadian organization conducted in 1992 and in 1998, it was found that 56% of respondents permanently reduce the workforce over two year period ending in 1992, while 50% cut the number of employee during two year period prior to 1997-1998 about 31% of employee reduced in both 1992 and 1998 5% precent of organization did not engage in workforce. Three recent studies found 45% of participants reported that their organization permanently reduced workforce in two years. Among  organizations reducing the workforce average reduction was around 15% of the workforce. Similarly, when investing how the workforce reductions were carried out; combining the result from the studies revealed that about 355 of reductions were by attrition, 45% by voluntary severance or early retirement; and 40% by layoffs. Compared 1990s, these results suggest that organization s are relying less on layouts and more voluntary services. WHY DO ORGANIZATIONS DOWNSIZE? There are several reasons why organizational decide to downsize the workforce. Some of the factors most commonly mentioned include the following: Declining profits Business downturn or increased pressure from competitors Merging with another organization, resulting in duplication of effort Introduction of new technology The need to reduce operating costs The desire to decrease levels of management Getting rid of employee â€Å"deadwood† Simply put, many organizations engage in downsizing because managers believe that cutting people will result in reduced cost (with cost being more predictable than future and improved financial performance. In addition, labour cost is often seen as easier to adjust relative to other expenditures. Although executives often perceive that reducing the number of people in the organization will lead to lower overhead cost, reduced bureaucracy ,better communication, improved decision making, increased innovative activity and higher productivity, there is considerable evidence that workforce reduction programs often fail to meet their objectives, as has been observe by Cascio: Study after study shows that following a downsizing, surviving employees become narrow-minded, self-absorbed, and risk averse. Morale sink, producing drops, and survivors distrust management. Some organizations drastically reduce the workforce and employ a severe reduction strategy despite increasing demand and a favourable competitive enviroment.This development, which has been mentioned by HR managers in personal interview, may be due to a variety of reasons, including a decision to follow the lead of other firms engage in cutback management and increase awareness of the need of operate in a lean and mean  fashion. THE DOWNSIZING DECISION: For many organizations, going through a downsizing is a very painful and difficult experience. A 1994 article Business week profiled Robert Thrasher, executive vice-president at Nynex and the individual responsible for cutting labelled the â€Å"corporate assassin†. In speaking about downsizing Thrasher commented. This is tough, ugly work. The stress is palpable .I’m vilified throughout the company .that’s tough thing to carry around. â€Å"More recently, Robert Burtlon of Moore Corporation, when discussing his role in a cost cutting plan at a previous company, stated.† I don’t get frustrated any more. I just fire people.† Too often, organization embarks on a downsizing program without careful consideration of whether there are feasible alternatives to downsizing. Studies after study reveals that many downsizing are not well planned frequently ignore the linkage between downsizing and the strategic direction of organization, and underestimate the impact of downsizing on the organization and its human resource. ALTERNATIVES TO DOWNSIZING: Downsizing can be a costly strategy for organization to pursue and as a result, it is desirable to investigate whether alternatives to downsizing exis.In a number of instance, organizations discover that pursuing different alternatives to downsizing may eliminate the need to reduce the workforce or allow for a less severe downsizing strategy. Some of the alternatives include: 1. Cutting no personnel costs (e.g, through energy conservation, planned capital expenditures, leasing of capital equipment, reductions in travel or club memberships) 2. Cutting personnel costs (e.g, through a hiring freeze, job sharing, a reduction in work hours, reduced benefits, and wage concessions) 3.Providing incentives for voluntary resignation or early retirement Although this list is not complete, it emphasizes the need to consider other ways to manage costs within an organization One organization, road communications inc, asked each member of its staff to take one week of unpaid leave during the summer months. According to senior partner mia wedgbury , it let us keep our core team together while reducing cost. And  it went over well with the staff because it precluded layoffs. another organization acxion corporation cut the pay of each employee earning more than 25000 dollar by 5% but also gave the employee the option to by company stock that would be matched one-foe one by the firm INPLACEORMENT AND OUTPLACEMENT ISSUES: Outplacement Issues .Inplacement Refers To A Career Management Approach Inappropriately Placed Workers Into a Restructured organization ,while outplacement focuses on the provision of a program In Examining The Downsizing Decision, It Is Necessary To Consider Both Inplacement And of counseling and job-search assistance for workers who have been terminated. In making career management decisions, organizational decision makers may opt for an inplacement program or termination with outplacement In a survey of Canadian manufacturing firms completed in 2000, organizations that had gone through downsizing were asked to report on the benefits they provide to displace workers. These results are provided in figure11.2 .The most common benefits were severance pay, continuation of employee benefits, outplacement retraining assistance or family counseling PLANNING FOR DOWNSIZING: If downsizing is essential, the key issues that need to be considered: Determining how many people will lose their job and who will be let go (ie. based on seniority or performance) Determining how reduction will be carried out. For example, to what extent will the organization use attrition, early retirement or voluntary severance programs and layoff or termination. Its possible to consider the approach to workforce reduction from the perspective of employee? As indicated in figure 11.3,the approaches to workforce reduction vary in the degree of protection to employees and the cost to employee Determining the legal consequences. For example organizations often ignore or are unaware of legal requirements when downsizing the workforce .some areas of law to be aware of include the law of wrongful dismissal,employment  standards legislation, trade union law ,existing collective agreement provisions, and human right legislation. for instance, there may be a very narrow line between voluntary and involuntary termination, and with the termination of older workers, there exists a possibility of an age discrimination claim Designing current and future work plans .this issue represents a key challenge for the organization and is frequently neglected Implementing the decision. Implementation includes such elements as severance payments, outplacement counseling, the communication of the termination decision, timing if the decision, issues, and communications with remaining employees Performing follow-up evaluations and assessment of downsizing effort Figure 11.3 Approaches To Workforce Reduction Workforce Degree of Reduction protection to Implementation Approach Example Employee Time Attrition Hiring Freeze High Show Voluntary Early Retirement Redeployment Voluntary buyout Work sharing Involuntary Transfer Redeployment Demotion Imposed job sharing Layoff with Retraining Assistance job counseling Advance notice Layoff without Termination Low First Assistance No advance notice No Severance PROCESS OF DOWNSIZING: There are 6 processes. These are below: 1. Develop an RIF team to plot initial strategy. 2. Plan the goals and timing of the RIF. 3. Perform an overall workforce analysis. 4. Review employment policies, individual contracts of employment. 5. Ensure compliance with the Worker. 6. Special considerations for unionized employers. 1. Develop an RIF team to plot initial strategy: Nobody likes the prospect of a downsizing – especially employees who may feel particularly vulnerable to being laid off – and the mere mention of the word can trigger widespread hysteria and morale problems. At the early stages of the initial strategy phase, a company should limit discussion of downsizing to a trusted core of high-level management personnel and consultants. For large companies considering large-scale layoffs, the RIF team ideally should include the chief financial officer, the chief executive officer, the chief operating officer, a senior-level human resources or employee relations executive, an upper-level payroll specialist, an employment law attorney, and a public relations consultant. 2. Plan the goals and timing of the RIF: The first task is to determine the magnitude of savings that need to be realized from a layoff. This task is part of an overall cost-cutting plan, which could implicate other costs and expenses in addition to those related to personnel. Second, the RIF team should consider ways to realize the desired savings, such as subcontracting; consolidation of divisions, operating units or functions; the sale of the company or a work unit; and shutdowns. 3. Perform an overall workforce analysis and an analysis of each proposed termination: The most complicated and difficult aspect of the RIF process is determining which employees will be laid off. The most common legal challenges to layoffs are administrative charges and lawsuits premised on discrimination based on age or other legally protected characteristics. Accordingly, it is crucial for an employer to be able to give legitimate, nondiscriminatory reasons for every termination decision. Those reasons need to be easy to articulate and logically consistent. 4. Review employment policies, individual contracts of employment, separation benefits and stock-option agreements under which affected employees may claim rights or benefits: The RIF team should perform a due-diligence review of potential liabilities and verify whether, by policy or contract, the company has limited its ability to lay off employees. Likewise, where a collective bargaining agreement or policy dictates a priority for reductions in force, or â€Å"bumping rights,† such procedures should be examined. The company should also review policies and agreements to determine eligibility for severance benefits and accrued benefits such as paid time off, vacation or sick leave. 5. Ensure compliance with the Worker Adjustment Retraining and Notification (WARN) Act: Generally, employers with 100 or more employees are subject to the WARN Act. Covered employers are required to give 60 days’ advance written notice of a â€Å"plant closing† or â€Å"mass layoff.† A â€Å"plant closing† is defined as the permanent or temporary shutdown of at least one facility or operating unit that results in an employment loss of 50 or more employees at a single site of employment. A â€Å"mass layoff† is a loss of employment at a single site of employment that affects at least 50 employees and one-third of the covered employer’s work force. a loss of employment of 500 or more workers at a single site of employment. Special considerations for unionized employers: The National Labor Relations Board maintains that, with certain exceptions, employers must bargain with employee representatives over the effects of  layoffs stemming from entrepreneurial decisions such as closing a plant or transferring bargaining-unit work. In the case of layoffs that do not constitute a business closing or a transfer of bargaining-unit work, employers generally must bargain over the effects of such decisions and, depending on contract language, the very decision to lay off employees. ADJUSTING TO JOB LOSS: Workers who have lost their jobs frequently experience tremendous pain. As well, job loss can be very difficult for family members. Furthermore, many downsized employees are very bitter and angry with their former employer. A U.S. study of downsized workers revealed that 67% would never work for their former company again, 54% would not recommend that others purchase the organization’s products or services, and 11% considered going to the media and talking about their layoff experiences. One can start adjusting to job loss by using a little psychology. There have been a lot of studies done on how to deal with loss. Psychologists have found that people often have an easier time dealing with loss if they know what feelings they might experience during the â€Å"grieving process.† Grief doesn’t usually overwhelm us all at once; it usually is experienced in stages. The stages of loss or grief may include: Shock — you may not be fully aware of what has happened . Denial usually comes next — you cannot believe that the loss is true. Relief then enters the picture for some, and you feel a burden has lifted and opportunity awaits. Anger often follows — you blame (often without reason) those you think might be responsible, including yourself. Depression may set in some time later, when you realize the reality of the loss. Acceptance is the final stage of the process — you come to terms with the loss and get the energy and desire to move beyond it. The â€Å"acceptance† stage is the best place to be when starting a job search, but you might not have the luxury of waiting until this point to begin your search. While some people may see a job loss as a challenge which opens up new opportunities, most associate job loss with strong negative emotions. It is important to know that it is natural to have some negative feelings (especially at first) after a job loss, and that most people experience  them. Here are some feelings and experiences that you may have after losing your job: Loss of professional identity: Professionals identify strongly with their careers. Unemployment can often lead to a loss of self-esteem. Being employed brings respect in the community and in the family. When a job is lost, part of your sense of self may be lost as well. Loss of a network: The loss may be worse when your social life has been strongly linked to the job. Many ongoing â€Å"work friendships† are suddenly halted. Old friends and colleagues often don’t call because they feel awkward or don’t know what to say. Many don’t want to be reminded of what could happen to them. Also, when work and social activities mix, such as with company picnics and dinner parties, the job loss can be hard for all family members who participated in such activities. Emotional unpreparedness: Those who have never been unemployed may not be emotionally prepared for job loss and may be devastated when it happens. It is natural and appropriate to feel this way. You might notice that some people you know don’t take their job loss as hard as you have taken it. They might be more prepared for this time of uncertainty. Studies show that those who change jobs frequently, or who are in occupations prone to cyclic unemployment, suffer far less emotional impact after job loss than those who have been steadily employed and who are unprepared for cutbacks. A number of organizational interventions and practices have been identified as helping previously employed workers adjust to job loss and secure new employment. They include the following: Advance notification of layoffs, which gives employees time to dent with the reality of job loss and to seek future employment. Severances pay and extended benefits, which provide an economic safety net. Education and retraining programs, which give individuals time to acquire marketable skills. Outplacement assistance to inform employees of new job opportunities and to improve their ability to â€Å"market† themselves. Clear, direct and empathetic announcement of layoff decisions. Consideration of HR planning practices that represent alternatives to large scale layoffs. There are some benefits of losing a job: Time to reflect Grow new ideas, direction and career plan Get out of a job that was substandard Spend more time with family and hobbies

The Nature And Role Of The Financial System Finance Essay - Free Essay Example

Sample details Pages: 18 Words: 5345 Downloads: 11 Date added: 2017/06/26 Category Finance Essay Type Analytical essay Did you like this example? Financial system is a mechanism where economic exchange activities can be done. The economic activities can be done through the interaction between financial institutions and the financial market. The purposes of this interaction are to mobilize fund and providing payment facilities for the financing of commercial activities. Don’t waste time! Our writers will create an original "The Nature And Role Of The Financial System Finance Essay" essay for you Create order With the emergence of Islamic finance, the dual financial systems being introduce. In dual financial system the conventional financial systems operating side by side with the Islamic financial systems. The Islamic Financial system consists of the role of four essential mechanisms: The Islamic banking institutions, Takaful, Islamic Capital Market and Islamic Money market. The structure of this financial system may consist of specialized and non-specialized financial institutions, of organized and unorganized financial markets, of financial instruments and services which facilitate transfer of funds. It also comprises of procedures and practices adopted in the Islamic financial markets. The operation and mechanism of the financial system is scrutinized by Bank Negara Malaysia advisory board and Securities Commission Syariah Advisory Board to ensure compliance of Islamic rules and regulations. The Islamic financial institutions which are govern and control under Bank Negara Malays ia are the organizations that mobilize the depositors savings, and provide financing, acting as creditor or in the form of capital venture or financing in the form of profit and loss sharing (PLS). They also provide various financial services to the community, particularly business organizations. The activities will be dealing in financial assets such as deposits, loans, securities or dealing in real assets such as machinery, equipment, stocks of goods and real estate. The activities of different financial institutions may be either specialized or their function may be overlap. They may be classified base on the basis of their primary activity or the degree of their specialization with relation to savers or borrowers with whom they customarily deal or scope of activity or the type of ownership are some of the criteria which are often used to classify a large number and variety of financial institutions which exist in the economy. Financial institutions are divided into banking an d non-banking institutions. The banking institutions traditionally participate in the economys payments mechanism, i.e., they provide transactions services, their deposit liabilities constitute a major part of the national money supply, and they can, as a whole, create deposits or credit, which is money and Banks, subject to legal reserve requirements, can advance credit by creating claims against themselves. Financial institutions are also classified as intermediaries and non-intermediaries. As the term indicates, intermediaries intermediate between savers and investors; they lend money as well as mobilize savings; their liabilities are towards the ultimate savers, while their assets are from the investors or borrowers. Non-intermediary institutions do the loan business but their resources are not directly obtained from the savers. All banking institutions are intermediaries. Many non-banking institutions also act as intermediaries) and when they do so they are known as Non-Banking Financial Intermediaries. The Evolution of Financial Intermediaries in Malaysia In this section, our task is to survey the landscape and identify the institutional players. By describing what financial intermediaries look like today, it is also revealing to see how financial intermediaries have evolved over the last century. Institutional Players The banking system in Malaysia, which is the major component of the financial sector, consists of Bank Negara Malaysia, commercial banks, Islamic banks, International Islamic banks, Investment bank, other non bank institutions and money brokers. Which are all regulated and supervised by Bank Negara Malaysia.  Ãƒâ€šÃ‚  Ãƒâ€šÃ‚  The other non-bank institutions are supervised by other government agencies. These institutions can be divided into four major groups, consisting of the development finance institutions, the saving institutions, the provident and pension funds, and a group of other financial intermediaries, comprising of building societies, unit trusts and property trusts, leasing companies, factoring companies, credit token companies, venture capital companies, special investment agencies and several financial institutions such as the National Mortgage Corporation (Cagamas) and Credit Guarantee Corporation. The traditional banking system role has been to make long- term loans and fund them by issuing short-term deposits.  [1]  But banking systems are prohibited from engaging in securities market activities such as securities underwriting or the sale of trust funds. Therefore, the current design of non-bank financial institution are allowed to deal in the securities market a part of providing services which are similar to the banking system. The contribution of each non-bank financial institutions: insurance companies and pension funds; they receive investment funds from their customers, both of these institutions place their money in a variety of money-earning investments. Leasing companies; they purchase equipment/asset and then lease to businesses for a set number of years. Factoring companies; provide specialized forms of credit to businesses by making loans and purchasing accounts receivable at a discount, usually assumes responsibility for collecting the debt, specialize in bill processing and collections and to take advantage of e conomies of scale. Market makers; as an agent that offer to buy or sell security (trading in securities),  [2]  storage the securities and insured the securities against loss, provide margin credit,  [3]  cash management account services.  [4] Trust funds; pool the funds of many small investors and purchase large quantities of securities, offer a wide variety of funds designed to appeal to most investment strategies, allow the small investors to obtain the benefits of lower transaction costs in purchasing securities and reduce the risk by diversifying the portfolio. The National Mortgage Corporation; is to promote the secondary mortgage market in Malaysia, with the issuance of secondary mortgage securities, Cagamas Berhad performs the function of an intermediary to bring together the primary lenders of housing loans and investors of long-term funds. Evolution The evolution of financial intermediation in Malaysia is reflected in Table 1. Table 1 shows the major financial intermediaries by assets and also by percentage share (in parentheses) from 1960 to 2000. To the extent that we can view the pace of financial intermediation as a horse race, there seem to be a clear winners and losers. For example, in terms of relative importance the winners are unit trust, Cagamas Berhad, leasing companies, factoring companies and venture capital companies. Commercial banks and finance companies are losers. These findings raise some interesting questions. First, what caused the change in the mix of financial intermediaries? In this section, we will examine this evolutionary process via three factors. Deregulation of Interest Rate Interest rate deregulation that affects loan pricing takes its earliest form.  [5]  Canada, in 1960, was the first to deregulate its interest rate. Other countries deregulated in the 1980s or thereafter.  [6]  This deregulation allows more freedom and activity to the banks and other institutions to issue new depository products as well as diversified short and long term credit instruments.  [7]  Leightner and Lovell (1998) state that some relaxation to the banks portfolio were part of the liberalization that enables bank to diversify investment to private as well as the foreign equity.  [8]  This made possible with the establishment of the foreign exchange market and the expansion of the underwriting activities of the financial intermediaries. Liberalization in Japan and Germany for instance, brings new paradigm to the roles of the banking institutions. The bank in Germany and Japan is no longer to be a creditor, but can also be the equity holder and in the board of directors and management. Liberalization of the banking industry, for example in Malaysia and some other countries, take banking institution into a new dimension that is the establishment of Islamic banking.  [9]  The increasing demand on the interest free banking offer by the Islamic financial institutions leads many conventional banks to offer Islamic counter or rather known as dual banking. This development happens to Muslim and non-Muslim countries. The results show that the individuals prefer to diversify their investment other than deposits. In particular, they invest in securities such as stocks, bonds and unit trusts. Therefore, new investment in unit trust for the small saver altered permanently the financial landscape. The Institutionalization of Financial Markets Institutionalization refers to the fact that more and more funds in Malaysia have been flowing indirectly into the financial markets through financial intermediaries, particularly pension funds, trust funds and insurance companies rather than directly from savers. As a result, these institutional players have become much more important in the financial markets relative to individual investors. What caused institutionalization? Quite simply, it was driven by the growth of these financial intermediaries, particularly pension and unit trust.  [10]  Pension fund growth was encouraged by government policy. Tax laws, for instance, encourage employers to help their employees by substituting pension benefits for wages. This is good for employees because they do not pay taxes on their pension benefits until they are received after retirement. Unit trusts gained considerably from these changes in pension plan laws. Defined contribution plans were allowed to include unit trust on th e menu of assets for which plan members could choose. In addition, the increasing attractiveness of specialized funds such as bond funds and index funds has also fueled unit trust fund growth. The Transformation of Traditional Banking The fact that banks are exposed to the non-performing loans that stood at 9.1% for the periods of 1997 to 1999 and it seems to us that banking is a declining industry. However, first, the so-called decline of commercial banking is limited to a decline in the relative importance of commercial banking. As shown in Table 1, the decline of commercial banks assets as a fraction of total intermediated assets from 43.4% in 1980 to 41.3% in 2001. Table 1 also shows that banking industry assets actually increased between 1960 and 2000. In other words, bank assets have actually increased just not as fast as the assets of other financial intermediaries. Second, many of the new innovative activities in which banks engage are not reflected on bank balance sheets as assets even though they add significantly to bank revenue.  [11]  These include, for example, trading in interest rate and currency swaps, selling derivative instruments and issuing credit guarantees. Third, banks have a stro ng comparative advantage in lending to individuals and small businesses.  [12]  Finally, banks have joined forces with a number of other types of financial intermediaries.  [13]  For example, banks have combined with unit trust funds, merchant banks, insurance companies and finance companies. Bank acquisitions of non-bank financial intermediaries are part of broader consolidation of the entire financial services industry. Diagram 1: Structure of Regulatory Framework Minister of Land and Co-operative Development Licensing of : Brokers Representatives Trading Adviser Representatives Fund Managers Representatives Minister of Finance Minister of Domestic Trade Consumer Affairs Securities Commission Act 1993 Securities Industry Act 1983 Registrar of Companies Securities Commission Future Industry Act 1993 Companies Act 1965 Cooperative Act 1993 Kuala Lumpur Stock exchange (KLSE) BNM Islamic Banking Act 1983 Licensing of Dealers Representatives Investment Adviser Representatives Fund Managers Representatives Securities Clearing Automated Network Sdn Bhd (SCANS) Malaysian Central Depository Sdn Bhd (MCD) Kuala Lumpur Commodity Exchange (KLCE) Malaysian Futures Clearing Corporation Sdn Bhd (MFCC) Kuala Lumpur Options Financial Futures Exchange (KLOFFE) Malaysian Monetary Exchange (MME) Malaysian Derivative Clearing House Sdn Bhd (MDCH) Table 1: Malaysia: Assets of the Financial System, 1960-2000 As at end of (RM million) 1960 1970 1980 1990 2000 Banking System 2,356 (66.3) 7,455 (64.1) 54,346 (73.3) 223,500 (69.8) 829,900 (66.8) Central Bank 1,114 (31.4) 2,422 (20.8) 12,994 (17.5) 37,500 (11.7) 148,900 (12.0) Commercial Banks 1,232 (34.7) 4,460 (38.4) 32,186 (43.4) 130,600 (40.8) 513,600 (41.3) Finance Companies 10 (0.3) 531 (4.6) 5,635 (7.6) 39,400 (12.3) 109,400 (8.8) Merchant Banks 2,229 (3.0) 11,100 (3.5) 36,900 (3.0) Discount Houses 42 (0.4) 1,292 (1.7) 4,900 (1.5) 21,100 (1.7) Non-Bank Financial Intermediries 1,197 (33.7) 4,167 (35.9) 19,807 (26.7) 96,900 (30.2) 413,100 (33.2) Provident and Pension Funds 733 (20.6) 2,717 (23.4) 11,370 (15.3) 51,800 (16.2) 217,600 (17.5) Life and General Insurance Funds 103 (2.9) 439 (3.8) 2,476 (3.3) 10,300 (3.2) 52,200 (4.2) Development Financial Institutions 113 (1.0) 2,193 (3.0) 6,000 (1.9) 25,100 (2.0) Savings Institutions 267 (7.5) 645 (5.5) 2,463 (3.3) 10,000 (3.1) 32,300 (2.6) Other Intermediaries 93 (2.6) 233 (2.0) 1,305 (1.8) 19,800 (6.2) 85,900 (6.9) Total 3,553 11,622 74,153 320,400 1243,000 Source: Bank Negara Malaysia, Annual Reports (various issues) Financial Markets Financial markets are the centers or an arrangement that provide facilities for buying and selling of financial claims and services the corporations, financial institutions, individuals and governments trade in financial products in these markets either directly or through brokers and dealers on organized exchanges or off-exchanges. The participants on the demand and supply sides of these markets are financial institutions, agents, brokers, dealers, borrowers, lenders, savers, and others who are interlinked by the laws, contracts, covenants and communication networks. Financial markets are sometimes classified as primary (direct) and secondary (indirect) markets. The primary markets deal in the new financial claims or new securities and, therefore, they are also known as new issue markets. On the other hand, secondary markets deal in securities already issued or existing or outstanding. The primary markets mobilize savings and supply fresh or additional capital to business units. A lthough secondary markets do not contribute directly to the supply of additional capital, they do so indirectly by rendering securities issued on the primary markets liquid. Stock markets have both primary and secondary market segments. Very often financial markets are classified as money markets and capital markets, although there is no essential difference between the two as both perform the same function of transferring resources to the producers. This conventional distinction is based on the differences in the period of maturity of financial assets issued in these markets. While money markets deal in the short-term claims (with a period of maturity of one year or less), capital markets do so in the long-term (maturity period above one year) claims. Contrary to popular usage, the capital market is not only co-extensive with the stock market; but it is also much wider than the stock market. Similarly, it is not always possible to include a given participant in either of the two (money and capital) markets alone. Commercial banks, for example, belong to both. While treasury bills market, call money market, and commercial bills market are examples of money market, stock market and government bonds market are examples of capital market. Keeping in view different purposes, financial markets have also been classified into the following categories: (a) organized and unorganized, (b) formal and informal, (c) official and parallel, and (d) domestic and foreign. There is no precise connotation with which the words unorganized and informal are used in this context. They are quite often used interchangeably. The financial transactions which take place outside the well-established exchanges or without systematic and orderly structure or arrangements constitute the unorganized markets. They generally refer to the markets in villages or rural areas, but they exist in urban areas also. Interbank money markets and most foreign exchange markets do not have organized excha nges. But they are not unorganized markets in the same way the rural markets are. The informal markets are said to usually involve families and small groups of individuals lending and borrowing from each other. This description cannot be strictly applied to the foreign exchange markets, but they are also mostly informal markets. The nature, meaning, and scope of activities of these types of markets will be discussed later in the book. As mentioned earlier, financial systems deal in financial services and claims or financial assets or securities or financial instruments. These services and claims are many and varied in character. This is so because of the diversity of motives behind borrowing and lending. The stage of development of the financial system can often be judged from the diversity of financial instruments that exist in the system. It is not possible here to discuss individually the nature of various financial claims that exist in the financial system. The financial a ssets represent a claim to the payment of a sum of money sometime in the future (repayment of principal) and/or a periodic (regular or not so regular) payment in the form of interest or dividend. With regard to bank deposit or government bond or industrial debenture, the holder receives both the regular periodic payments and the repayment of the principal at a fixed date. Whereas with regard to ordinary share or perpetual bond, only periodic payments are received (which are regular in the case of perpetual bond but may be irregular in the case of ordinary share). Financial securities are classified as primary (direct) and secondary (indirect) securities. The primary securities are issued by the ultimate investors directly to the ultimate savers as ordinary shares and debentures, while the secondary securities are issued by the financial intermediaries to the ultimate savers as bank deposits, units, insurance policies, and so on. For the purpose of certain types of analysis, it is al so useful to talk about ownership securities (viz., shares) and debt securities (viz., debentures, deposits). Financial instruments differ from each other in respect of their investment characteristics which, of course, are interdependent and interrelated. Among the investment characteristics of financial assets or financial products, the following are important: (i)liquidity, (ii) marketability, (iii) reversibility, (iv) transferability, (v) transactions costs, (vi) risk of default or the degree of capital and income uncertainty, and a wide array of other risks, (vii) maturity period, (viii) tax status, (ix) options such as call-back or buy-back option, (x) volatility of prices, and (xi) the rate of return-nominal, effective, and real. DEFINITION AND SCOPE OF A CAPITAL MARKET (THE ECONOMIC FUNCTIONS OF FINANCIAL INSTITUTIONS) The previous section gave a brief overview of the major types of financial institu ­tions. To understand why financial institutions exist and the economic services that they provide, it is important to understand the different ways in which funds are transferred within an economy between businesses, government, and households (economic entities) that need to borrow funds (borrowers) and those that have sur ­plus funds to lend (investors). In a very simple economy without financial institutions, transactions between, different borrowers and lenders are difficult to arrange. Borrowers and savers incur significant search and information costs trying to find each other. Transactions be ­tween borrowers and savers may also be limited, because few financial contracts in ­volve only two parties. Similarly, risks are great, since individual entities have little or no knowledge of each other and little ability to monitor each others actions. Also, the transaction s costs may be so high that small entities may be unwilling to supply funds. Investors also have little ability to diversify their risk, due to the high cost of many financial contracts. Supplier of funds: surplus (savings) units Lenders: Housesolders, companies, governments, rest of the worlds Demand of funds: deficit unit Borrowers: Housesolders, companies, governments, rest of the worlds Financial Markets Financial institutions help to reduce transactions, search, monitoring, and infor ­mation costs. They provide risk management services and allow investors to diversify their risk and hold portfolios of financial assets by creating ways of indirect financing. Financial institutions also play important roles in an efficient payment system be ­tween entities and in managing pure risk (insurance). The upper panel of Figure 1 shows the role of financial institutions as intermedi ­aries between borrowers and lenders. The term primary securitie s refers to direct financial claims against individuals, governments, and non-financial firms. A simple economy without any financial insti ­tutions would accommodate only direct financial claims or financial contracts. In ef ­fect, a borrower gives an investor a financial contract or direct financial claim or se ­curity that promises a stake in the borrowers company (i.e., shares of stock) or future payments returning the amount invested plus interest (i.e., a bond, or some other sort of IOU). These are examples of direct or primary securities. As an economy develops, markets emerge for trading direct securities. Some function as auction markets, where trading is carried out in one physical location, as occurs on the New York Stock Exchange; others function as over-the-counter mar ­kets, where trading is carried out by distant contacts, perhaps over the phone and computer, as on the National Association of Security Dealers Automated Quotation (NASDAQ) sy stem. Loans made directly with borrowers are another example of a primary or direct security, where a direct contract is made between a borrower and a bank or other individual lender. Table 1.2 provides examples of primary securities in the first column. The financial assets owned by banks, insurance companies, and mu ­tual funds, such as loans, bonds, and common stock, are all direct securities, where the lenders give funds to the borrowers, and the lenders receive financial contracts guaranteeing repayment of funds plus interest or shares of ownership in the bor ­rower companies. Investors lend funds in return for a direct or primary security. Secondary securities, in contrast, are financial liabilities of financial institu ­tions-that is, claim against financial institutions. In Table 1.2, financial institu ­tions liabilities-deposits, policyholder reserve obligations, and mutual fund shares-are secondary securities or claims against financial insti tutions. In effect, fi ­nancial institutions created secondary securities that offer advantages over primary securities or direct financial claims. EXAMPLES OF PRIMARY AND SECONDARY SECURITIES Primary Securities Secondary Securities Commercial loans Savings deposits Mortgage loans Transaction deposits Consumer loans Certificates of deposit Government bonds Insurance policyholders reserves Corporate bonds Mutual fund shares Corporate common stock Pension fund reserves Table 1.2 shows this type of indirect financing. Unfortunately, like most fields, finance sometimes uses confusing terminology. Readers should carefully avoid confusing the use of the words primary and secondary in this dis ­cussion with their use in other contexts. For example, students who have previously stud ­ied corporate finance or investments may have encountered the terms primary and sec ­ondary markets; primary markets are those for originally issued securities, and secondary markets handle resale of securities. In the context of this chapter, primary and secondary distinguish between issuers of securities and not between changes in securities ownership. PRIMARY AND SECONDARY MARKET In a market economy the existence of financial markets can greatly ease the process of exchanging loanable funds for financial claims. A firm that wants to borrow money can go to the market in the knowledge that those with funds to lend will be there. The process is made easier still if specialist traders are known to be actively participating in the markets, buying and selling financial claims on their own account, thereby smoothing over days on which trading is thin or when there is an excess of potential borrowers or lenders. Further economies are achieved if agents or brokers can be employed to enter the market representing the customer to buy and sell securities. The existence of the market serves borrowers and lenders alike by reducing the search costs which each has to incur to get in touch with the other, and also maintains confidence in market prices. Markets do not always have a physical location. A market for loanable funds might consist of nothing more than a list of kn own dealers who can be contacted by letter or telephone. The International Stock Exchange is the centre of the securities market. It has both a physical trading site which is used for a very small number of securities, and a highly developed system of trading which takes place in a number of locations via computer linkages. The discount market is another traditional financial market, but one which operates without a physical site at all. This market operates by representatives of the discount houses maintaining close daily contact with the leading banks, either by telephone or personal visits, to determine where trading opportunities are. Two types of financial markets exist for real and financial assets, and it is important to distinguish between them. A primary market for financial assets deals in new issues of all types of loanable funds. Transactions in primary markets result either in the creation or in the extinction of financial claims. The creation of a new loan causes th e transfer of cash from a lender to a borrower in exchange for a financial claim on the latter. The claim is extinguished when the cash, usually interest and principal, has been repaid to the lender. A secondary market is a market in old issues. Transactions in secondary markets do not create or extinguish financial claims. Cash does not pass between borrowers and lenders, but existing issues simply change hands. The borrower remains unaffected by the transaction while the lender transfers the right of repayment to another. The main economic function of the secondary markets is to support the operations of the associated primary markets for new issues by providing liquidity to lenders. In the absence of a developed secondary market an individual saver might be very unwilling to lend out money for long periods of time, except at rates of high interest too high to be attractive to borrowers. If the chances of making a sale when necessary are unacceptably low, no lender would commit fu nds. Therefore an active secondary market is essential for an active primary one. However, there is no guarantee that the lender will receive back in sale proceeds the full amount at the time they are sold, since markets fluctuate all the time, and prices are not constant. Secondary markets also contribute to the efficiency of the primary market by providing pricing information. In the share market, for example, the current prices of traded securities significantly reduce the problem of setting a price on new issues with similar risk profiles, and information from the secondary market will also influence the attitude of potential participants in primary markets. Figure 3.2 illustrates the connections between primary and secondary markets. Not all primary markets have secondary markets associated with them and some securities are issued for which there are no secondary markets, that is, the securities are not negotiable. Conversely, for every secondary market there must exist, or have existed, an associated primary market. The distinction between primary and secondary markets is not unique to financial markets. The same is true in the markets for physical goods. There is both a market for new and for used cars. In the primary car market, newly manufactured cars are sold, and in the secondary market, often in a different location and involving another group of participants, used cars are bought and sold. On the other hand, a haircut is an example of a good, or in this case a service, bought in a primary market, but for which a secondary market does not exist. It is possible for a physical good to be sold or a financial security to be issued in a primary market which subsequently ceases to function, leaving the secondary market only. Examples are to be found in the markets for farm land and the paintings of old masters. The creation of new farm land is limited to countries still exploiting formerly unused land, whereas in the UK, there has been a substantial a nd continuing loss of farm land to other uses. In the case of the paintings of continued to be actively traded. The mismatch in activity levels of the primary and secondary markets for securities is not usually quite so marked, but it is considerable. Another example is that of ECU denominated bonds where the market effectively disappeared during 1992/3 and then recovered. Trading in new issues of ordinary shares, for example, is variable in frequency and may be subject to distortionary pricing. But trading in existing corporate issues is very active, although the monetary value of money transactions is not always very great. Some controversy surrounds the economic function of the secondary markets. The fact that there is active trading in these markets, sometimes in circumstances where the associated primary market appears to have disappeared, often leads financial commentators and others to conclude that the activities of these secondary markets are bringing about a misallocati on of resources. But consider the choices open to savers who wish to invest. They can invest in the markets, either directly or through an intermediary. The saver has the choice of either lending directly to a deficit unit via the primary markets or of purchasing an existing security in the secondary markets. If an existing security is purchased, the previous holder of that security will receive cash which can be used either to spend on consumption goods and services or reinvested in the financial markets. Only if the money is spent on imported goods, or in the acquisition of foreign assets are the proceeds lost to the economy. Finally it is desirable that markets should operate in such a way that savings are directed to the most productive firms, or be allocatively efficient. This is attractive to individual lenders, as it leads to maximum return and minimum risk, the optimal trade-off facing the investor. If managers in financial institutions consis ­tently place lenders fu nds with borrowers yielding low returns or high default records, investors will either take their funds elsewhere, increase the interest compensation they require, or impose severe restrictions on the kinds of business in which they will invest. Allocative efficiency may also be desirable from a social point of view and savings should flow to the most productive firms to benefit the economy as a whole. The problem gets more complicated when viewed from this angle because the definition of productivity from a social perspective may be different from that taken by lenders. Lenders may not care whether the firms to whom they lend are monopolists, pollute the atmosphere or engage in illegal activities, but other groups in society might. Clearly, it is possible for there to be conflict between the objectives of the individual decision-makers and the wishes of society. This problem can even exist within a single group of investors. Pension funds, for example, invest money in order to p rovide pensions for their members but may find that some of their members demand that the funds are not invested overseas or in a competing firm in the same sector. Whilst these decisions may. if sufficiently widespread, affect the relative issue costs, it is not clear that the result should be interpreted as being allocatively inefficient. This idea that investors should have a strong view about the uses to which their funds are put is becoming increasingly important and is taken seriously by fund managers, and many financial institutions use ethical or environmental factors in their marketing. In a monetary economy, the distinction between saving and investment is a real one. Savings can always be held in the form of cash and near-cash assets, such as precious metals. To lend is to forgo liquidity. In order to stimulate long-term lending it is necessary to provide the means by which lenders can restore liquidity without calling in their loans. This is the function of the secondary markets. DESIRABLE CHARACTERISTICS OF MARKETS Whenever funds change hands as a result of voluntary exchanges, financial markets can be said to exist, but some markets function better than others. It is helpful to have criteria which can be used to evaluate the effectiveness of these markets. To begin with primary markets, the most pressing need of users is that they should be able to do business with each other at low cost. If transactions costs, such as brokerage fees, are a significant proportion of the funds borrowed then the effective rate of interest paid on loans will be very high, reducing the demand for loanable funds. So one test of the economic value of a primary market is the average proportion of the borrowed funds consumed in transaction costs. It is also beneficial to be confident about the existence of a healthy secondary market, and be sure that securities are truly negotiable. The main value here is in minimising the interest compensation sought by lenders. It follows that a primary market should operate in su ch a way that it minimises disruptions to the secondary markets. Suppose each new issue of loans caused dramatic falls in the prices of old issues, perhaps because each new issue more than marginally increased the total stock of a particular type of security. The effect of new issues might then be decrease the price and undermine the value, and hence the liquidity, of old issues, in turn negatively affecting the primary market. Therefore, it is desirable that transactions in the secondary market should be much greater in value and volume than those in the primary one. There are limits to the extent to which it is possible for markets to bring about the optimal allocation of funds. Mistakes occur because decisions are made with imperfect information, but the costs of gaining more information are greater than the benefits. The additional information may be known to transactors in the secondary market, and if so, the condition and prospects of borrowers will be monitored there. To now consider secondary markets, it is important to remember that the purpose of a secondary market is to enable holders of securities to convert them into cash without undue loss. Therefore one desirable characteristic of this market is for it to be an active one.