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Role of Banks in a Developing Economy Research Team | Updated On Monday, November 17,2014, 05:08 PM

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Role of Banks in a Developing Economy



Banks play a very important and dynamic role in the economic development of every nation. A study of the economic history of western country shows that without the evolution of commercial banks in the 18th and 19th centuries, the industrial revolution would not have taken place in Europe. The economic importance of commercial banks to the developing countries can be categorized into :

  • Promoting capital formation
  • Encouraging innovation
  • Monetization
  • Influence economic activity
  • Facilitator of monetary policy

Promoting capital formation

A developing economy needs a high rate of capital formation to accelerate the speed of economic development, but the rate of capital formation depends upon the rate of saving. But in underdeveloped countries, savings are very low. Banks afford facilities for saving and, thus encourage the habits of thrift in the community. They mobilize the idle and latent capital of the country and make it available for productive purposes.

Encouraging innovation

Innovation is another factor responsible for the economic development of a country. The entrepreneur in innovation is largely dependent on the mode in which bank credit is allocated and utilized in the process of economic growth. Bank credit facilitates entrepreneurs to innovate and invest, and thus uplift economic activity and progress.


Banks are the manufactures of currency notes. Banks monetize debts and also assist the backward subsistence sector of the rural economy by expanding their branches in to the rural areas. They should be replaced by the modern commercial bank’s branches.

Influence economic activity

Banks can influence economic activity in a country by their influence on the interest rates and many other factors. They are in a position to influence the rate of interest in the money market through the supply of funds. Banks may follow an economical money policy with low interest rates which will tend to stimulate economic activity.

Facilitator of monetary policy

Thus monetary policy of a country must be conductive to economic development. But a well-developed banking system is an essential pre-condition to the effective implementation of monetary policy. Under-developed countries can never ignore this fact.


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