Banks fulfil several key functions in the economy. They improve the allocation of scarce capital by extending credit to where it is most productive, as well as allowing households to plan their consumption over time through saving and borrowing (Allen and Gale 2000).
How does a bank help us in our daily life?
Banks are closely linked with our everyday lives and activities. Drawing salaries, paying bills, buying homes, building up savings and taking out loans all involve transactions with banks. Businesses also rely on the banking system for settlement of their transactions and meeting other financial needs.
How does the banking system help the economy?
Banks help to expand and maintain the economy by providing a ready supply of capital (meaning cash and loans) for the others to take advantage of. By pooling the collective amount of money, rather than having each individual keep their money as cash on hand, banks are able to provide finance when needed for individuals and businesses.
How are banks involved in the money supply?
It is possible because there are multiple banks in the financial system, they are required to hold only a fraction of their deposits, and loans end up deposited in other banks, which increases deposits and, in essence, the money supply. Banks are the backbone of the economy when it comes to money.
Why are interest rates important to the economy?
The difference between the two interest rates is effectively the profit margin for banks. Banks play an important role in the economy for offering a service for people wishing to save. Banks also play an important role in offering finance to businesses who wish to invest and expand.
Why is it important for a bank to make money?
A bank can become more profitable by using a percentage of its deposits to lend to other customers. If a bank pays 2% on bank deposits but lends money to firms and consumers at 6%, then it can make a bigger profit on its deposits. A bank just needs to keep sufficient liquidity to meet the demands of customers to withdraw money.
