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THE BARE ESSENTIALS. WHAT THE BANKS ARE FOR?


The Economist, May 21, 2005.
In developed counties, nearly everyone has a bank account, because keeping cash under a mattress is neither safe nor convenient. Banks are essential feature of national life, like buses, post offices and hospitals. Any money that is not floating around as cash, in the form of notes or cons, is either sitting in a bank account, or is in transit in a payment system between banks.
Banks operate by taking deposits from private people, on which they pay low interest or none at all, and using the money to make longer-term loans to other customers, charging them higher interest rates. Banking is based on trust, but banks sometimes misuse depositors’ money or make losses on their loans, and depositors do not usually have the time, the inclination or the capacity to monitor their banks. They are happy to leave that task to governments.
Governments also help banks cope with temporary cash shortages by providing access to the ‘discount window’ so they can borrow money from the central bank. The bank deposits are often insured in a pool arrangement or by the government itself, in case the bank goes bust.
Banks are also needed to make payments, sending money from one bank account to another, whether in the same bank or in any other one the world over. Even a payment by credit or debit card, or a mobile-phone billing account, ends up as part of a transaction with a bank.
These days most banks do a lot more besides, offering a wide range of financial services. For example, they give financial advice, exchange foreign currency, deal in securities and derivatives, and manage investments on behalf of clients. Regulators have an interest in making sure that these businesses are run properly; but their chief concern remains that banks are sound, that that those deposits are safe and that the payment system runs smoothly.
Regulating banking system is an uncertain business. Banks have to be discouraged from forming protectionist cartels ad encouraged to compete with each other, but not so fiercely that they cut each other’s throats. It is a delicate balance for regulations to strike.
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