Functions of commercial banks
Modern banks not only deal in money and credit creation, other useful functions management of foreign trade, finance etc. The meaning of modern banks is used in narrow sense of the term as commercial banks. Functions of commercial banks are divided in the following main categories:
A) Primary Functions:
I. Accepting deposits
II. Advancing loans
III. Investments of funds
IV. Credit creation
B) Secondary Functions:
I. Agency functions
II. General utility functions
I. Accepting Deposits: The most important function of commercial banks is to accept deposits from public. This is the primary functions of a commercial bank. Banks receives the idle savings of people in the form of deposits and finances the temporary needs of commercial and industrial firms. A commercial bank accept deposit from public on various account, important deposit account generally kept by bank are:
a) Saving Bank Deposits: This type of deposits suit to those who just want to keep their small savings in a bank and might need to withdraw them occasionally. One or two withdrawals upto a certain limit of total deposits are allowed in a week. The rate of interest allowed on saving bank deposits is less than that on fixed deposits. Depositor is given a pass book and a cheque book. Withdrawals are allowed by cheques and withdrawal form.
b) Current Deposits: This type of account are generally kept by businessmen and industrialists and those people who meet a large number of monetary transactions in their routine. These deposits are known as short term deposits or demand deposits. They are payable demand without notice. Usually no interest is paid on these deposits because the bank cannot utilize these deposits and keep almost cent per cent reserve against them. Overdraft facilities are also available on current account.
c) Fixed Deposits: These are also known as time deposits. In this account a fixed amount is deposited for a fixed period of time. Deposits are payable after the expiry of the stipulated period. Customers keep their money in fixed deposits with the bank in order of earn interest. The banks pay higher interest on fixed deposits. The rates depend upon the length of the period and state of money market. Normally the withdrawals are not allowed from fixed deposits before the stipulated date. If it happens, the depositor entails an interest penalty.
d) Other Deposits: Banks also provide deposit facilities to different type of customers by opening different account. They also open. ‘Home Safe Account’ for housewife or very small savers. The other accounts are : ‘Indefinite Period Deposit a/c’; ‘Recurring Deposit’ a/c; ‘Retirement Scheme’ etc.
II. Advancing of Loans: The second main function of the commercial bank is to advance loans. Money is lent to businessmen and trade for short period only. These banks cannot lend money for long period because they must keep themselves ready to meet the short term deposits. The bank advances money in any one of the following forms:
a) Cash Credit: Cash Credit is a type of advance wherein a banker permits his customer to borrow money upto a particular limit by a bond of credit with one or more securities. The advantage associated with this system is that a customer can withdrawn money as and when required. The bank will charge interest only on the actual amount withdrawn by the customer. Many industrial concerns and business houses borrow money in this form.
b) Overdraft: An overdraft is an arrangement by which the customer is allowed to overdraw his account. It is granted against some collateral securities. The facility to overdraw is allowed through current account only. Interest is charged on the exact amount of overdrawn subject to the payment of minimum amount by way of interest.
c) Loan: Loan is an advance in lump sum amount the whole of which is withdrawn and is supported to be rapid generally wholly at one time. It is made with or without security. It is given for a fixed period at in agreed rate of interest. Repayments may be made in installments or at the expiry of a certain period.
d) Discounting Bill of Exchange: The bank also gives advances to their customers by discounting their bills. The net amount after deducting the amount of discount is credited to the account of customer. The bank may discount the bills with or without any security from the debtor in addition to the personal security of one or more person already liable on the bill.
III. Investment of funds: Besides loan and advances, banks also invest a part of its funds in govt. and industrial securities. Banks purchases both govt. and industrial securities like govt. bills, share, debentures, etc from their market.
IV. Credit Creations: The banks create credit. When a bank advances a loan, it does not give cash to the borrower. It opens an account in the name of the borrower. The borrower is allowed to withdraw money by cheque whenever he needs. This is known as Credit Creation.
Secondary Functions of banks: It is divided into two parts:
I. Agency Services: Modern Banks render service to the individual or to the business institutions as an agent. Banks usually charge little commission for doing these services. These services are as follows:
a) Remittance of Funds: Banks help their customers in transferring funds from one place to another through cheques, drafts etc.
b) Collection and payment of Credit Instruments: Banks collects and pays various credit instruments like cheques, bill of exchange, promissory notes etc.
c) Purchasing and Sale of securities: Banks undertake purchase and sale of various securities like shares, stocks, bonds, debentures etc. on behalf of their customers. Banks neither give any advice to their customers, regarding this investment, nor levy any charge of them for their services, but simply perform the function of a broker.
d) Income Tax Consultancy: Sometimes bankers also employ income tax experts not only to prepare income tax returns for their customer but to help them to get refund of income tax in appropriate cases.
e) Acting as Trustee and Executor: Banks preserve the wills of their customers and execute them after their death.
f) Acting as Representatives and Correspondent: Sometimes the banks act as representatives and correspondents of their customers. They get passports, travelers tickets secure passages for their customers and receive letters on their behalf.
II. General Utility Services: A modern bank now a days serves its customers in many other ways :
a) Locker facility: Banks provides locker facility to their customers. The customers can keep their valuables and important documents in these lockers for safe custody.
b) Traveler’s cheques: Bank issue travelers cheques to help their customers to travel without the fear of theft or loss of money.
c) Gift cheque: Some banks issue cheques of various denominators to be used on auspicious occasions. These are known as “gift cheques” as they are gifted to others.
d) Letter of Credit: Letter of credit are issued by the banks to their customers certifying their credit worthiness. Letter of credit are very useful in foreign trade.
e) Foreign Exchange Business: Banks also deal in the business of foreign currencies. Again, they may finance foreign trade by discounting foreign bills of exchange.
f) Collection of Statistics: Banks collects statistics giving important information relating to industry, trade and commerce, money and banking. They also publish journals and bulletins containing research articles on economic and financial matters.