A commercial bank, also known in the UK as a high street bank, is a financial institution that provides deposit, current (checking) and saving accounts to individuals, organizations and businesses. It also lends money.
The term may be ambiguous. Some people (and dictionaries) say a commercial bank is a bank or financial institution’s division that deals mainly with deposits and loans from companies and large businesses, rather than private individuals (retail banking).
Commercial banks make money by taking short-term, relatively liquid deposits and turning those funds into bigger, long-term maturity loans. This process, which transforms their assets, generates income.
Commercial banks take deposits and lend money.
Commercial banks contrast with investment banks (merchant banks), whose main businesses include securities trading, asset management, mergers & acquisition advisory, and securities underwriting. Aside from central banks, there are two main types of banks, investment and commercial banks.
Many large commercial banks, such as HSBC, Deutsche Bank and Barclays, are also involved in investment banking, but retail banking makes up the bulk of their operations.
“A commercial bank is a bank whose main functions are to accept demand deposits and to make loans, thereby facilitating the transfer of funds in the economy. Typically, commercial banks make loans to business firms, private individuals, and government related entities. They also issue time and savings deposits and operate trust departments. Though commercial banks do not issue currency, they do issue money in the form of demand deposits, hence they have the power of creating and destroying money.”
What are the primary functions of commercial banks?
The primary function of commercial banks is accepting deposits. Without getting deposits they cannot make loans and investments.
People deposit their money in banks because they want to keep it safe, earn interest, and have easy access to it through ATMs, checks (UK: cheques), and various types of payment cards.
Banks offer different main types of accounts to suit the needs of customers.
– Fixed Deposits: the customer deposits a lump sum for a fixed period.
– Savings Deposits: used by customers wishing to build up small savings. Interest rates paid are higher than in checking accounts (current accounts, current deposits) but lower than in fixed deposits.
– Current Deposits (checking accounts): money can be paid in and taken out as often as the customer wishes. Generally, no interest is paid. Sometimes the bank will charge a small fee. These accounts usually have an overdraft facility for customers who qualify and want one.
– Recurring Deposits: the customer deposits a fixed amount every month for an agreed period. Interest is paid. At the end of the specified period the money can be withdrawn or the deposit renewed for another term.
Commercial banks also process payments, issue bank drafts and checks, provide cards, lend money, deal in foreign exchange transactions, issue traveler’s checks, and offer safety deposit boxes for documents and items.
Some commercial banks may give investment advice and offer brokering insurance contracts.
Harder to tell commercial and investment banks apart today
From 1933 to 1999, thanks to the Glass-Steagall Act (US only), it was quite easy to tell commercial and investment banks apart.
If you took deposits and lent money you were a commercial bank, and an investment bank if you helped businesses issue shares.
By the end of the 1990s it became more and more difficult and then impossible to enforce Glass-Steagall. Today, we have to look at where the bulk of a financial institution’s activities are and income comes from to determine what type of bank it is.
In 2012, JP Morgan Chase – one of America’s largest commercial banks – was the lead underwriter in Facebook’s initial public offering (IPO – when it became a public corporation).
According to Forbes, the ten largest banks in 2015 were:
1. ICBC (China)
2.China Construction Bank (China)
3. Agricultural Bank of China (China)
4. Bank of China (China)
5. JPMorgan Chase (US)
6. Wells Fargo (US)
7. HSBC Holdings (UK)
9. Bank of America (US)
10. Banco Santander (Spain)
Video – The history of strategy in commercial banking