HSNC University, Mumbai

HR College Of Commerce & Economics

F.Y.M.COM (Banking & Finance)

Commercial Bank Management

Functions of Commercial Banking

NAME: VAIBHAVI SUREKHA BORHADE

ROLL NO: 09
CONTENT
 INTRODUCTION

WHAT IS A COMMERCIAL BANK?

The term commercial bank refers to a financial institution that accepts deposits, offers checking

account services, makes various loans, and offers basic financial products like certificates of
deposit (CDs) and savings accounts to individuals and small businesses. A commercial bank is
where most people do their banking.

Commercial banks make money by providing and earning interest from loans such as
mortgages, auto loans, business loans, and personal loans. Customer deposits provide banks
with the capital to make these loans. Commercial banks have traditionally been located in
physical locations, but a growing number now operate exclusively online.

Commercial banks are regulated by the central banks in their respective countries. Central banks
act as the supervisor of commercial banks, and they impose certain regulations to ensure banks
operate within the stipulated rules.

For example, central banks make it mandatory for commercial banks to maintain bank reserves
with them. Some central banks set the minimum bank reserves, requiring banks to keep a
particular percentage of their customer deposits at the central bank. The reserves help to cushion
banks against unexpected events like bank runs and bankruptcy.
WHAT IS COMMERCIAL BANKING?

Commercial banking, also known as business banking or institutional banking, refers to banking
products and services designed for corporations, institutions, and sometimes governments. In
addition to deposit products like checking and savings accounts, commercial banks offer
merchant services, commercial loans, global trade services, treasury services, and other
corporate-oriented products. However, many of the products and services offered by commercial
banks are specifically designed to meet the financial needs of corporations and institutions.

FUNCTIONS OF COMMERCIAL BANKS

1.Accepting Deposits

This is the oldest function of a bank and the banker used to charge a commission for keeping the
money in its custody when banking was developing as an institution.  The commercial banks
accept different types of deposits, the deposits may be broadly classified as demand deposits
and time deposits.  The former refer to the deposits which are repayable by the banks on
demand by the depositors, while the time deposits are accepted by the banks for a fixed period of
time before the expiry of which they don’t return the deposit.

 The demand deposits include the current account deposits and savings bank account

deposits. These two types of deposits earn very low rate of interest as they can be withdrawn any
time.   In the case of savings deposit, the depositor is not allowed to withdraw more than a fixed
number of times or amount over a period of time.  

The time or term deposits include the fixed deposit and recurring deposits. In the former a sum
is deposited for a fixed period of time determined at the time of deposit and is never allowed to
be withdrawn before the expiry of period of deposit. Any such foreclosures will invite penalty
apart from forfeiting the interest. Recurring deposits are the type of deposits in which a depositor
agrees to deposit a fixed sum of amount every month for a number of months as determined in
advance, and at the end of which the depositor will be repaid his deposit amount along with
interest. Every bank will be interested in  mobilizing  as much deposit as possible as it would

improve its liquidity with which the bank can meet is liabilities and expand its business.

2. Advancing Loans:

One of primary functions of a commercial banks is to advance loans to its customers. A bank
lends a certain percentage of the cash lying in deposits on a higher interest rate than it pay on
such deposits. This is how it earns profits and carries on its business.

The bank advances loans in the following ways:

(a) Cash Credit:
The bank advances loan to businessmen against certain specified securities. The amount of the
loan is credited to the current account of the borrower. In cash of a new customer a loan account
for the sum is opened. The borrower can withdraw money through cheques according to his
requirements buy pays interest on the full amount.

(b) Call Loans:
These are very short-term loans advanced to the bill brokers for not more than fifteen days. They
are advance against first class bill or securities. Such loans can be recalled at a very short notice.
In normal times they can also be renewed.

(c) Overdraft:
A bank often permits a businessman to draw cheques for a sum greater than the balance lying in
his current account. This is done by providing the overdraft facility up to a specific amount to the
businessman. But he is charged interest only on the amount by which his current account is
actually overdrawn and not by the full amount of the overdraft sanctioned to him by the banks.

(d) Discounting Bills of Exchange:

If a creditor holding a bill of exchange wants money immediately, the bank provides him the
money by discounting the bill of exchange. It deposits the amount of the bill in the current
account of the bill-holder after deducting its rate of interest for the period of the loan which is not
more than 90 days. When the bill of exchange matures, the bank gets its payment from the
banker of the debater who accepted the bill.

3. Credit Creation:

Credit creation is one of the most important functions of the commercial banks. Like other
financial institutions, they aim at earning profits. For this purpose, they accept deposits and
advance loans by keeping a small cash in reserve for day-to-day transactions. In the process of
their lending operations they create credit. The process involves the following mechanism;
whenever the banks lend loans, they do not pay cash to the be borrowers; instead they credit the
accounts of the borrowers and allow them to withdraw from their accounts. This means every
loan given will create a deposit for the banks. Since every deposit is equal to money, banks are
said to be creating money in the form of credit. As a result the volume of funds required by the
trade, government and the country is met by the banks without any necessity to use actual cash.

4. Agency Functions:

Commercial banks function as he agent of their customers and help them several ways. For these
agency services, the banks charge a nominal amount. The agency services include, transfer of
customer’s funds, collection of funds on behalf of the customers, transactions in the shares and
securities for their customers, collection of dividends on shares and interest on debentures for
their customers, payments of subscriptions, dues, bills, premia on behalf of the customers, acting
as the Trustees and Executor of the customers, offering financial and other consultancy services,
acting as correspondents of the customers, etc.
5. Financing Foreign Trade:

A commercial bank finances foreign trade of its customers by accepting foreign bills of exchange
and collecting them from foreign banks. The international trade depends to a large extent on the
financial and other support given by the banks. Apart from encouraging bills transactions, the
banks also issue letter of credit facilitating the importers to conduct their trade smoothly. The
banks also process all the documents through consultancy services and reduce the botheration of
the traders. They also lend on the basis of commercial bills, warehouse receipts, etc., which help
the traders to expand their business.

6. Other Functions:

Other functions of commercial banks include

 providing safety vault facility

  issuing traveller’s cheques
 providing consultancy services on financial and investment matters
 underwriting the issue of shares and debentures
 collecting and transmitting of money and securities
 ROLE OF COMMERCIAL BANKS IN ECONOMIC DEVELOPMENT

The banking sector has one of the pillars of economic prosperity for many centuries. In fact,
history provides some basic information about how the banks in our newly acquired colonies
financed imperialist enterprises. Overtime banks have formed an important part in providing an
avenue for both savings and investment.

 Trade Development: Commercial banks provide capital, technical assistance, and other

facilities to traders as per their need which leads to growth in trade.
 Agriculture Development: Commercial banks finance the most crucial sectors of the
developing economy, such as agriculture, short, medium, and long-term loans for seeds and
fertilizers, tube wells installation, warehouse construction, purchase of tractors and threshers.
 Industrial Development: Countries that have focused on the industrial sectors have developed
rapidly. South Korea, Malaysia, Taiwan, Hong Kong, and Indonesia have recently developed
their industrial sectors with the help of commercial banks.
 Capital Formation: Commercial banks help to increase the rate of capital formation in a
country. Capital formation means increasing the number of production units, technologies,
plants, and equipment. They fund projects responsible for increasing the rate of capital
formation.
 Development of Foreign Trade: Commercial banks assist businessmen in conducting business
in two different countries. Credit certificates are issued by the importer’s bank to the exporters to
ensure payment. Banks also provide foreign exchange.
 Transfer to money: Commercial banks make it possible to transfer funds from one place to
another which leads to the growth of trade.
 More production: A good banking system ensures greater productivity in all areas of the
economy. It increases the productive capacity of the economy by strengthening the capital
structure and the division of labor.
 Development of Transport: Commercial banks finance the transport sector. This has reduced
unemployment on the one hand and increased transport facilities on the other. Remote areas are
connected to major markets through improved transportation systems
 Increasing in Saving: Commercial banks persuade people to save more. For this purpose,
various savings schemes with attractive interest rates have been introduced. Now-these-days the
bank has branches in urban and rural areas.
 Construction of Houses: Commercial banks offer credit to their customers for buying or
building a home.
 The assistance of the Government: Commercial banks share the funds to the government for
creating economic stability and also provide funds for development programs.
 Increased in Employment: The economic prosperity of a country depends on the development
of trade, commerce, industry, agriculture, transport, and communication. These sectors are
financed by commercial banks and employment opportunities are increasing.
 Financial Advice: Commercial banks provide useful financial advice to their customers in
addition to financial benefits in business development.
 Increased in Investment: Commercial banks raise public savings. They make them available to
farmers, traders, and industrialists for the development of agriculture, trade, and industry.
 Use of Modern Technology: The use of modern technology in the least developed countries is
only possible in the presence of advanced commercial banking as it can be the main source of
their funds. These funds are used to import modern technology from developed countries.
 Economic Prosperity: The economic prosperity of a country depends on various factors
including the development of commercial banking. A sound banking system promotes people’s
economic position by providing short, medium, and long term loans.