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Commercial Banks: Its Functions and Types Research Team | Posted On Monday, January 20,2020, 04:10 PM

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Commercial Banks: Its Functions and Types



While discussing the types and functions of commercial banks let’s first discuss some basics of commercial banks:

A commercial bank is a financial institution that is authorized to provide various financial services which include giving loans to individuals and businesses, accepting deposits, funding foreign and domestic trade etc. Commercial banks are monitored and supervised by the country’s apex bank RBI thus using it as an institution to monitor and control cash flows in the economy. Commercial banks also mobilize funds from the hands of depositors to borrowers and spread it across various sectors.

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Commercial Banks are of Three Types

(a) Public Sector Banks:

These are the banks in India where more than 50% of the shares are held by the government. These banks also work for welfare of common citizens and thus provide various schemes and loans at affordable interest rates.

See Also: Top 14 Functions of Commercial Banks – Discussed!

(b) Private Sector Banks:

Private sector banks are the types of commercial banks where a majority of the stakes are owned by private individuals and private businesses. As such private sector banks are recorded as companies with limited liability.

 (c) Foreign Banks:

Foreign banks are the non-Indian banks that operate in India like CitiBank and DBS Bank. Foreign banks must follow the guidelines of both its home country and the host-country while operating.

Functions of Commercial Banks:

Commercial banks play a crucial role in the banking system of the country. It performs various important functions for the smooth functioning of the economy. For example, banks are the institutions that are responsible for the mobilization of funds and helps in the disbursement of deposits from one sector to the other. Listed below are some of the important functions performed by commercial banks:

 Accepting Deposits:

This is one of the major functions performed by the commercial banks. They accept deposits from its customers and allow them to earn interest on their idle deposits. The deposits are kept within the bank as reserves and are reused to provide loans to the borrowers. This helps banks earn an income from loans and is thus a source of income for the bank. Depositors can make several types of deposits like recurring deposit, MIS, FDs, savings account deposits and demand deposits.

See Also: Lending Policy of Commercial Banks

Giving Loans:

Banks serves as the most reliable source of credit which is disbursed mainly through credit cards and loans. Borrowers from any sector can approach the bank and borrow money at a reasonable rate and repay it by setting an agreement about the loan tenure and the EMIs. Banks have efficiently worked and expanded to diminish the role of private moneylenders. Bank loans are given based on the credit score of an individual or by checking the credit ratings of a business. Commercial banks are motored by the RBI that has set guidelines for lending, liquidity of banks and their profitability.

By Creating a Deposit:

Cash credit is another method for lending money. Under this system, the bank disburses money to the borrower based on bonds, inventory and other approved securities. The bank sanctions the money based on the creditworthiness of the borrower. The interest payable is calculated based on the credit limit used by the borrower.

Discounting of Bills of Exchange:

This is a method of advancing loans to traders for a short term. It is given in scenarios where the customer purchases goods from the supplier and the payment is made through a letter of credit. Discounting bills refer to an accepted draft or bill of exchange sold for early payment to a bank at less than a face value after the bank deducts fees and applicable interest charges. In this way, businesses get credit on the basis of bills of exchange before their maturity.

See Also: List of Scheduled Banks in India

Remitting Funds:

Customers can also remit funds from one bank branch to the other through bank draft or other facilities like NEFT, RTGS etc. Remittances helps traders and business owners transfer money without dealing through cash. Bank remittances are the cheapest ways to send money.

Funding Foreign Trade:

Banks also finance and facilitate foreign trade by purchasing and selling foreign currencies and accepting foreign bills of exchange.

Investment of Funds:

Banks invest the surplus funds into government securities like treasury bills, commercial papers or NSCs. Banks also invest in other securities like shares of RRBs and securities offered by the housing board, development banks etc.

Agency Functions:

  • Banks purchase and sell securities on behalf of its customers
  • It collects cheques, drafts, bills of exchange and dividends from its customers
  • Banks offer customers the facility of auto-debit through which people can pay insurance premiums, EMIs and income tax on time.

Miscellaneous Functions:

  • Banks offer locker facility so that customers can safeguard their assets from theft
  • Banks are reference points for customers and companies and give information about the financial position of an individual.
  • It issues letters of credit.
  • Banks collect and provides necessary information about industry and trade
  • Banks also advise their clients regarding investments.

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