The Banking System: Commercial Banking - What Banks Do
  1. The Banking System: Introduction
  2. The Banking System: Commercial Banking - What Banks Do
  3. The Banking System: Commercial Banking - Economic Concepts in Banking
  4. The Banking System: Commercial Banking - How Banks Make Money
  5. The Banking System: Commercial Banking - Business Lending
  6. The Banking System: Commercial Banking - Operations
  7. The Banking System: Commercial Banking - How Banks Are Regulated
  8. The Banking System: Commercial Banking - Where Commercial Banks Are Vulnerable
  9. The Banking System: Commercial Banking - Bank Crises And Panics
  10. The Banking System: Commercial Banking - Key Ratios/Factors
  11. The Banking System: Federal Reserve System
  12. The Banking System: Non-Bank Financial Institutions
  13. The Banking System: Conclusion

The Banking System: Commercial Banking - What Banks Do

ByStephen D. Simpson, CFA

Accept Deposits / Make Loans
At the most basic level, what banks do is fairly simple. Banks accept deposits from customers, raise capital from investors or lenders, and then use that money to make loans, buy securities and provide other financial services to customers. These loans are then used by people and businesses to buy goods or expand business operations, which in turn leads to more deposited funds that make their way to banks.


If banks can lend money at a higher interest rate than they have to pay for funds and operating costs, they make money. An illustration of this very basic concept can be found in the old "3-6-3 Rule," a tongue-in-cheek "rule" that said a banker would pay out 3% for deposits, charge 6% for loans and hit the golf course by 3 p.m.

Provide Safety
Banks also provide security and convenience to their customers. Part of the original purpose of banks, and the goldsmiths that predated them, was to offer customers safe keeping for their money. Of course, this was back in a time when a person's wealth consisted of actual gold and silver coins, but to a large extent this function is still relevant. By keeping physical cash at home, or in a wallet, there are risks of loss due to theft and accidents, not to mention the loss of possible income from interest. With banks, consumers no longer need to keep large amounts of currency on hand; transactions can be handled with checks, debit cards or credit cards, instead.


While banks do not keep gold or silver bullion as currency on hand anymore, many, if not most, banks still maintain vaults and will rent out space to customers, in the form of safe deposit boxes. This allows customers to keep precious or irreplaceable items in a secure setting and gives the bank an opportunity to earn a little extra money, without risk to its capital.

Act as Payment Agents
Banks also serve often under-appreciated roles as payment agents within a country and between nations. Not only do banks issue debit cards that allow account holders to pay for goods with the swipe of a card, they can also arrange
wire transfers with other institutions. Banks essentially underwrite financial transactions by lending their reputation and credibility to the transaction; a check is basically just a promissory note between two people, but without a bank's name and information on that note, no merchant would accept it. As payment agents, banks make commercial transactions much more convenient; it is not necessary to carry around large amounts of physical currency when merchants will accept the checks, debit cards or credit cards that banks provide.

The Banking System: Commercial Banking - Economic Concepts in Banking

  1. The Banking System: Introduction
  2. The Banking System: Commercial Banking - What Banks Do
  3. The Banking System: Commercial Banking - Economic Concepts in Banking
  4. The Banking System: Commercial Banking - How Banks Make Money
  5. The Banking System: Commercial Banking - Business Lending
  6. The Banking System: Commercial Banking - Operations
  7. The Banking System: Commercial Banking - How Banks Are Regulated
  8. The Banking System: Commercial Banking - Where Commercial Banks Are Vulnerable
  9. The Banking System: Commercial Banking - Bank Crises And Panics
  10. The Banking System: Commercial Banking - Key Ratios/Factors
  11. The Banking System: Federal Reserve System
  12. The Banking System: Non-Bank Financial Institutions
  13. The Banking System: Conclusion
RELATED TERMS
  1. Processing Date

    The month, day and year when a merchant’s bank processes a credit ...
  2. Settlement Bank

    The entity that facilitates the exchange of money between the ...
  3. Bank Debits

    A bookkeeping term for realization of the reduction of deposits ...
  4. Debit Card

    An electronic card issued by a bank which allows bank clients ...
  5. Authorized Transaction

    A credit card purchase for which the merchant has received approval ...
  6. Bank

    A financial institution licensed as a receiver of deposits. There ...
RELATED FAQS
  1. How do commercial banks make money?

    Learn the different ways commercial banks make money, including interest from loan products and banking fees charged to customers. Read Answer >>
  2. What is the difference between an investment and a retail bank?

    Learn the primary differences between retail banks and investment banks by examining the business activities, type of clients ... Read Answer >>
  3. How does the deposit multiplier affect a bank's profitability?

    Find out how a deposit multiplier affects bank profitability, how it increases the supply of money in the economy and why ... Read Answer >>
  4. What are the differences between debit cards and credit cards?

    Learn how the major difference between a debit card and a credit card is where the money comes from when a customer makes ... Read Answer >>
  5. What factors are the primary drivers of banks' share prices?

    Find out which factors are most important when determining the share price of banks and other lending institutions in the ... Read Answer >>
  6. How does investment banking differ from commercial banking?

    Discover how investment banking differs from commercial banking, the responsibilities of each and how the two can be combined ... Read Answer >>

You May Also Like

Hot Definitions
  1. Yield Curve

    A line that plots the interest rates, at a set point in time, of bonds having equal credit quality, but differing maturity ...
  2. Stop-Limit Order

    An order placed with a broker that combines the features of stop order with those of a limit order. A stop-limit order will ...
  3. Keynesian Economics

    An economic theory of total spending in the economy and its effects on output and inflation. Keynesian economics was developed ...
  4. Society for Worldwide Interbank Financial Telecommunications ...

    A member-owned cooperative that provides safe and secure financial transactions for its members. Established in 1973, the ...
  5. Generally Accepted Accounting Principles - GAAP

    The common set of accounting principles, standards and procedures that companies use to compile their financial statements. ...
  6. DuPont Analysis

    A method of performance measurement that was started by the DuPont Corporation in the 1920s. With this method, assets are ...
Trading Center