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TRANSFER PAYMENT: A payment made without any corresponding production or expectations of production. Unless otherwise noted (such as business transfer payments), the term transfer payments generally refers to payments by the government sector to the household sector. The three most important transfer payments in our economy are for Social Security, unemployment compensation, and welfare. The intent of these transfers payments is to redistribute income, and thus the goods and services that can be had with the income. Transfer payments surface as income received but not earned (IRBNE) added to national income to derived personal income.

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BANKS:

Financial intermediaries that function as depository institutions, maintaining deposits, making loans, and directly controlling the checkable deposits portion of the economy's money supply. As financial intermediaries, banks match up lenders and borrowers, using deposits for loans. However, banks are also responsible for maintaining liquid checkable deposits that are used as money for the economy. The generic term "banks" or "commercial banks" is used in reference to traditional banks, as well as checking-account issuing thrift institutions--credit unions, savings and loan associations, and mutual savings banks.
Banks play an important role in the economy as financial intermediaries, matching up lenders and borrowers. Lenders direct a portion of their financial wealth to bank deposits. Borrowers seek loans to finance assorted expenditures, especially investment in capital goods. Banks act as a "go between" for these lenders and borrowers, often combining small sums from a number of different depositors into large scale loans.

However, unlike other financial intermediaries, banks also play a key role in maintaining a portion of the economy's money supply. Checkable deposits, or checking accounts, held by banks are not only a source of funds used for loans, they are also an important medium of exchange and part of the M1 money supply.

As such, banks pursue two goals: (1) seeking profit as a financial intermediary and (2) keeping deposits safe to ensure the liquidity of checkable deposits.

Banking Functions

For a financial institution to qualify as a commercial bank it must act as a financial intermediary and issue checkable deposits to the general public. Banks, however, provide a range of related functions.
  • Deposits: At the top of the list of banking functions is maintaining deposits for the public. These deposits provide banks with the prime source of funds used for loans. In effect, banks borrow income from some customers, which they then lend to other customers. Deposits come in many shapes and sizes, including checkable deposits, savings deposits, certificates of deposit, and money market deposits. Banks maintain deposits for consumers, businesses, government agencies, and even other banks. In accounting terminology deposits are liabilities of banks.

  • Loans: A second critical function performed by banks is extending loans. Banks generate the bulk of their revenue from interest payments on loans. Loans are extended to businesses, consumers, and other banks for a wide variety of purposes. Loans are commonly extended to businesses to finance long-term capital investment or to cover short-term expenses. Consumers look to banks for loans used to purchase housing, automobiles, and other durable goods, as well as increasingly popular credit cards. Banks also make short-term loans to other banks to help balance the ebb and flow of deposits and withdrawals. In accounting terminology loans are assets of banks.

Four Types

Banks are institutions that operate as financial intermediaries AND issue checkable deposits used as the medium of exchange. A number of institutions act as financial intermediaries, including insurance agencies, stock brokers, and mutual funds. However, only those institutions that ALSO maintain checking accounts are considered as banks.

In years gone by (prior to the 1980s), banks were easily identified because they invariably had the word "bank" in their names, such as Third National Bank, City State Bank, or Bank of Wilburforce. However, prompted by regulatory changes, competition in the financial markets, and a bit of economic turmoil, several "nonbank" institutions began functioning as "banks" in the 1980s. While they might not have the word "bank" in their names, for all practical purposes, they ARE banks.

As such, banks are usually separated into four types--traditional banks, credit unions, savings and loan associations, and mutual savings banks.

  • Traditional Banks: These are THE original banks that go way back in the history of the economy. They were the original financial intermediaries to offer checking accounts. In fact, prior to regulatory changes in the 1980s, banks were the ONLY financial intermediaries legally allowed to offer checking accounts. Because checking accounts are a critical part of the money supply, they have always been and continue to be heavily regulated. The biggest ones, usually falling under the category of national banks, are chartered by the Comptroller of the Currency and subject to regulations by the Federal Reserve System and the Federal Deposit Insurance Corporation. Other banks, more numerous, but usually smaller, are chartered and regulated by state or local agencies.

  • Savings and Loan Associations: Savings and loan associations (S&Ls) are depository financial institutions that were originally established to assist home owners with low-cost mortgage loans. The funds for these loans were obtained by offering simple savings deposits. S&Ls were an outgrowth of the exploding housing needs of the middle class in the mid-1900s. These so-called thrift institutions are chartered and regulated by the Federal Home Loan Bank, but also subject to regulation by the Federal Reserve System and the Federal Deposit Insurance Corporation. In the 1970s S&Ls began operating more like traditional banks, especially offering checkable deposits.

  • Credit Unions: Credit unions are non-profit depository financial institutions that were established to provide members of a specific group, such as employees of a company, with low-cost personal loans. Credit unions, also falling in the thrift institution category, were founded over concerns that traditional banks were not providing adequate services to working class consumer, especially personal loans. While many credit unions were originally affiliated with labor unions, they have now expanded in both customer base and services offered. They provide full-service banking, including checking accounts, to a wider segment of the population. The principal regulating authority for credit unions is the National Credit Union Administration.

  • Mutual Savings Banks: Mutual savings banks, a third type of thrift institution, are something of a cross between credit unions and savings and loan associations. They were nonprofit, like credit unions, but specialized in mortgage loans, like savings and loan associations. Mutual savings banks were created for reasons similar to that of credit unions--concern that traditional banks were not providing adequate services at reasonable prices. However, like credit unions and savings and loan associations, they too now operate largely as full-service banks.

Beyond Banks

Traditional banks and thrift institutions that issue checkable deposits are joined by other financial institutions that are sort of like banks and which might even have the word bank in their names. However, they do not provide the basic banking functions of traditional banks and thrift institutions. Here are a few examples:
  • Investment Banks: These are financial organizations that are primary involved with accumulating the funds that businesses use for capital investment, mergers, and corporate start ups. They accomplish this by underwriting the issuance of stocks and bonds. However, they DO NOT maintain checking accounts for the public.

  • Central Banks: These are government or government authorized institutions charged with conducting monetary policy and ensuring a sound money supply for a particular country. They are usually the primary bank regulator in the economy. They provide many banking services for commercial banks, including maintain deposits and extending loans. However, they DO NOT provide banking services to the general public.

  • Mutual Fund Companies: These are financial organizations that use the funds collected from a large number of savers to purchase financial assets such as corporate stocks, government securities, and commercial paper. Mutual fund companies perform a financial intermediary function much like commercial banks. However, to the extent that they offer check writing capabilities, the checks are not widely used as a medium of exchange.

Money Supply Liquidity

Commercial banks stand head and shoulders above other financial intermediaries by virtue of the role they play in the maintaining a portion of the money supply. Checkable deposits issued by banks are approximately half of the M1 money supply. It previous decades, checkable deposits were three-fourths of the M1 money supply. While the proportion has declined, checkable deposits remain a valuable medium of exchange. And banks are directly responsible for issuing and maintaining checkable deposits.

Other bank deposits, however, are also important to the economy's liquidity. Savings deposits, certificates of deposit, and money market deposits are near monies that make the M2 monetary aggregate. Policy makers and economists often look to M2 as a better measure of the economy's overall supply of spendable assets. Still other bank deposits, including repurchase agreements and Eurodollars, enter into the calculation of the M3 monetary aggregate.

While government is directly responsible for providing medium of exchange liquidity through paper bills and metal coins, banks play an equally important role through checkable deposits. Modern complex economies would not be able to function as efficiently or as effectively without the liquidity provided by bank deposits.

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Recommended Citation:

BANKS, AmosWEB Encyclonomic WEB*pedia, http://www.AmosWEB.com, AmosWEB LLC, 2000-2018. [Accessed: April 25, 2018].


Check Out These Related Terms...

     | banking | fractional-reserve banking | reserve | traditional banks | savings and loan associations | credit unions | mutual savings banks | thrift institutions |


Or For A Little Background...

     | money | M1 | profit | industry | monetary economics | government functions | financial markets | liquidity |


And For Further Study...

     | money creation | Federal Reserve System | Federal Deposit Insurance Corporation | Comptroller of the Currency | central bank | monetary policy | bank panic | monetary aggregates | barter |


Related Websites (Will Open in New Window)...

     | Federal Reserve System | Federal Deposit Insurance Corporation | Comptroller of the Currency | National Credit Union Administration |


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