Thursday, February 28, 2013

Neil Wilson — The Insidious Arrangement Fee

The excellent post by John Carney on the basics of a bank loan hit a chord with me and brought into focus something that has been worrying me for a long time.

John's post shows that although banks are notionally capital constrained and reserve constrained, it is fairly straightforward to create loans that are self-financing or partially self-financing.

The trick is to realise that banks fund their capital by converting a deposit into a capital instrument. And the easiest way to do that is to create the required capital instrument at the point the deposit is created - when the loan is advanced.

So you issue a loan in the standard fashion - but you charge an 'arrangement fee' and roll it into the loan. That arrangement fee goes straight to the bottom line. The bottom line is the profit and loss account and the profit and loss account is regulatory capital.
3spoken
The Insidious Arrangement Fee
Neil Wilson

No comments: