Chap 6 Commercial Banks

7/31/2019 Chap 6 Commercial Banks

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Commercial Banks


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A Commercial Bank is essentially meant for providing

short term credit to trade and industry. CommercialBank is called the lender of borrowed money. Themain purpose of these banks is to earn profit. Itcollects the surplus money of people and lends thatmoney the deficit group. By transferring the depositedmoney between two groups, Commercial Bank earnsprofit.

Commercial Bank generally deals with short termloan. The major portion of lending money comes fromthe deposit of people. So, by maximum utilization of

this deposited money of people Commercial Bank earnprofit. The purpose of providing loan to differentindustrial and business areas are to keep the countryseconomic condition smooth and running.


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To define commercial bank Prof. ROGER stated The bank which deals with money and moneys

worth with a view to earn profit is known ascommercial bank.According to New Encyclopedia Britannica- A

commercial banker is a dealer in money insubstitutes for money, such as cheques or bill ofexchanges

A clear concept can be derived from the comment ofProf. Holding on commercial bank. He stated Acommercial bank is defined as a dealer in short

term credit. The aim of the commercial bank is toearn profit. It accepts deposits from a group ofpeople and is a lender of the borrowed funds.


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Objectives of Commercial Bank:

1. Profit: The main purpose of Commercial Bankis to earn profit. Like other businessorganization, Commercial Bank is onlyconcern about profit.

2. Media of Exchange: To create easy media ofexchange, Commercial Bank has developedthe use of cheque, bill of exchange etc.

3. Capital Formation: By accumulating the

scattered savings from different sources,formation of capital is one of the mainobjectives of these banks.


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4. Public Welfare: Other than profit earning, oneof the objectives of Commercial Bank is toensure public welfare. By providing various

types of banking services and byparticipating in different national welfareactivities, these banks ensure public welfare.

5. Help in Planning: For the development of the

country these banks provide information totake right decision. It gives informationabout the countrys money and creditmarket, which help to take accurate plans.

6. Employment Creation: By providing loan andexpanding industrial and business sectors,Commercial Banks help to createemployment opportunities.


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7. Savings Propensity: Ensuring satisfactoryinterest rate and providing various services,Commercial Banks encourage the people to

save.8. Economic Stability: One of the objectives ofCommercial Bank is to keep the countryseconomy stable by providing loan and meetingthe demand of money in the market.

9. Development of Industry and Commerce:Facilitating the domestic and internationalexchange, especially helping in export-importbusiness, Commercial Bank ensure the

development of industry and commerce.10. Development of Standard of Living: Creatingemployment opportunity, Commercial Bankhas increased the income level as well as theliving standard of people.


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Differences between central bank and commercial

BanksDistinction between central bank andcommercial bank are existent. Their waysand thinking are quite different. The central

bank thinks of grater national interest on theother hand commercial bank thinks ofmaximization of profit. Consequently somedifferences are noticed in their objectives,nature of works, methods of managementand other fields. Some of their differencesare given below.


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Formation It is established by a

special law orordinance

Such bank is established with

the approval of the govt. onthe basis of existing companylaw under private or publicownership.

Ownership Generally this bankis established undergovt. ownership butsometimes it isestablished underprivate ownership

In most of the cases, it isestablished under privateownership.

Objective Its basic objective isnot to give profitbut grater publicwelfare.

Its basic objective is to gainprofit.


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No. of banks There is only onecentral bank in acountry.

There is more thanone commercial bankin a country.

Control It is totally control andrun by the government.

It is controlled andrun by the owner orshareholders

Govt. influence There is direct govt.influence over it.

There is indirectinfluence of thegovernment over itthrough central bank.

Agent It works as an agent ofthe state.

Sometimes it worksas an agent of theclient.


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State inmoneymarket

It is the organizer,controller and directorof money market.

It is only a member of themoney market under controlof the central bank.

Relation withthe govt.

There is direct relationwith the govt.

There is no directrelationship with the govt.But there is relation with thegovt. through central bank.

Competition It does not engage inany competition and ithave on competitorwithin the country

It is engaged in toughcompetition and survivesthrough competition.

Foreignbranches

Generally it does nothave any foreignbranch.

It may have foreign branches


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Note issue Central bank has theauthority to issue notes.

Commercial banks havenot the power to issuenotes.

Credit control It controls credit byincreasing or decreasingcurrency supply.

Commercial banks onlyhelp the central bank inthis respect.

Clearing house As the head of clearinghouse it settlestransaction amongdifferent banks.

As the members ofclearing house theysettle transactionsamong themselvesthrough theintermediary of thecentral bank.


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Lender of thelast resorts.

It acts as the lender ofthe last resort during

monetary crisis of thegovt. or commercialbanks.

At the time of monetarycrisis they take shelter of

the central bank.

Discountingauthority

Central bank has theauthority to discount

class 1 bills ofcommercial banks.

One commercial bankcannot discount bills of

another commercialbank. But they haveauthority to discountbills of clients.

.Customer The govt. is the main

customer of the centralbank. Commercial banksare also treated ascustomer as they takeloan from it.

The customers of

commercial banks arechiefly the generalpeople and the businessorganization.


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1. Principle of Liquidity.

2. Principle of Safety.

3. Principle of Profit earning.

4. Principle of Solvency.

5. Principle of Cost Control.

6. Principle of Savings Collection.

7. Principle of Investment.


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8. Principle of Service.

9. Principle of Secrecy.

10. Principle of Confidence.

11. Principle of Goodwill.

12. Principle of Publicity.

13. Principle of Efficiency.

14. Principle of Commitment to EconomicDevelopment.


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Lending Principles of commercial Banks:

1. Safetya) Character

b) Capital

c) Capacity

d) Collateral

e) Condition

2. Liquidity

3. Convertibility

4. Use of credit


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Lending Principles of commercial Banks:

5. Profit6.Type of loan

7. Diversification of credit

8. Source of return

9. Amount of Allotment

10. Legal status

11. Guide of central Bank

12. National interest


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Lines of Defense of Commercial Banks:

1. Cash on Primary Reserve2. Money at call & short notice

3. Reserve of near cash

4. Security

5. Investment

6. Cash credit, overdraft


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Source of Commercial Bank Fund:

1. Paid-up Capital2. Reserve Fund

3. Deposit

4. Borrowing


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Source of Income of Commercial Bank

1. Interest on Loan2. Investment

3. Discounting of Bill

4. Advance

5. Bank Draft, Travelers cheque

6. Underwriting

7. Mail Transfer

8. Locker rent

9. Telegraphic Transfer


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Source of Income of Commercial Bank

10. Agency Services

11. Intermediation of Sales & Purchase ofShares

12. Foreign Exchange

13. Import & Export Trade14. Consultancy Commission

15. Letter of Credit

16. Trustee17. Rent

18. Sale of Assets


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Functions of Commercial Banks:

Commercial bank holds a special

contribution on the development of totaleconomy of a country and doing a lot ofsignificant and necessary functions

fulfills this contribution. We can discussthe functions of commercial bank underdifferent viewpoints as stated below:


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A. General functions:1. Receiving deposits: The most important function of a

commercial bank is to collect its funds mainly

through deposit mobilization. It pools the scatteredsavings of different community and thus serves asthe reservoir of the communitys savings.

2. Disburse loans and advances: The other majorfunction of a commercial bank is to disburse loans

and advances to businessman, traders and others fora short period with a specific rate of interest.3. Creation of deposit through loan: The most distinctive

function of a commercial bank is to create deposit bylending money. That is commercial bank asks theclient to open an account with the bank to withdrawthe sanction loan and bank deposits the loanamount in that account. Then the borrower drawsmoney in different times from the bank by issuingcheques on that account. Thus, for a short periodsome amount remains stay on bank account. In this

way commercial bank creates deposits through loandisbursement.


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4. Create medium of exchange: Through issuing differenttypes of cheques, promissory notes, bill of exchangeetc. commercial bank creates easy and low

expensive medium of exchange to fluctuate theeconomy.5. Formation of capital and investment: The formation of

capital for trade, industry through collection ofsavings is an important function of a commercialbank. And commercial bank invests the depositedmoney in different sectors for the development ofthe countrys economy.

6. Assists in credit control: As the member of moneymarket commercial bank assists the central bank inimplementing the credit control mechanisms

introduced by them and thus establish a smootheconomy in the country.

7. Discounting Bills: Commercial bank helpsbusinessman financially through discounting bills,hundi etc. prior to maturity.

B A S i


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B. Agency Services:

1. Transfer of money: Commercial banktransfers money from one place to anotherthrough electronic transfer, mail transfer,telegraphic transfer, travelers cheques, bankdraft etc.

2. Settlement of transaction: Commercial bank

pays the money of bill of exchange, chequeetc. on behalf of client. Again it receivesaccounts receivable, bank draft, bill ofexchange on behalf of clients.

3. Purchase and sell of share: Commercial bankpurchases and sells shares, debentures bondetc. on behalf of clients for a sum ofcommission.


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4. Trustee: Commercial bank acts astrustee in sometime and takes theresponsibility to maintain the assets of

clients.5. Other functions: Commercial bank pays

and receives house rent of clients,takes dividend, pension and receivesinsurance premium on behalf of clients.

C U ili S i


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C. Utility Services:

1. Appreciate on savings: It is an important task

for commercial bank to appreciate onsavings through different means. Becausewith these saved money, commercial bankmaintains their business.

2. Advisor: Commercial bank gives necessary

advice on payment of tax, insurancepremium etc. for their clients.

3. Foreign exchange: Commercial bank helpspeople through buying and selling foreign

currency.4. Business consultancy: Commercial bank gives

valuable advice to commercial and industrialorganizations on technical and otherimportant factors.


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5. Underwriter: For formation of capital for the industrialorganizations of country, commercial bank manytimes takes the liability to underwrite of shares,debentures etc. of different companies.

6. Help in traveling: Through issuing travelers cheque,

travelers note, drafts etc. commercial bank giveschance and advantages to travelers.

7. Sefe-custody: Commercial bank helps its clients byreserving its clients valuable assets like ornaments,bonds, document etc. in its locker.

8. Secret information: Some time commercial bank givessecret financial information of his clients competitorbusiness organization.


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Thank You

Documents

Chap 6 Commercial Banks