Commercial Bank: Definition, Features, Functions & Problems

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What is Commercial Bank?

A commercial bank is a joint-stock financial institution which trades in money with the sole aim of raising profits for its shareholders.

Commercial Bank: Definition, Features, Functions & Problems
Commercial Bank

Sizes of Commercial Banks

Size matters in the banking industry because:

  • It helps to disseminate marginal banking.
  • It protects against shocks and volatility.
  • It raises the size of single obligor limit and increases the amount that can be given out as well as ushers in new competition both locally and globally.

Banks can increase their size either through retuming to the capital market for funds or by combing the nooks and crannies of the globe for port folio investors through the introduction of investments from various venture capitalists.

Features of Commercial Banks

  • They are limited liability companies established to deal in money and other valuable securities.
  • They are established by individuals, organisations, or governments.
  • The main purpose of their establishment is profit making.
  • They are either owned by governments or private individuals.
  • They transact business with governments, private individuals and organisations.
  • There is no limit to the number of commercial banks that can be established in a country.
  • They carry out ordinary retail banking.

Functions of Commercial Banks

  • Acceptance of Cash Deposit: They offer facilities for safe-keeping of money belonging to their customers. Such money may be deposited in current, savings, or fixed deposit accounts.
  • Agents for making payments: They make payments on behalf of their customers.
  • Lending agents: They make short-term loans to customers through several ways granting direct loans, granting overdrafts, discounting.
  • Safe-keeping of customers’ valuables: Customers can deposit their important documents (e.g. wills, shares, certificates) or treasured ornaments with the bank for safe-keeping.
  • Acting as trustees and executors of wills: They can manage the assets of the deceased and distribute same among his heirs, according to his will.
  • Acting as referees and investment advisers: They can recommend their customers to foreign firms that require indigenous business partners. They also advise their customers on matters relating to investment.
  • Agents for purchase of stocks and shares: They help their customers to purchase stocks and shares of companies and government securities.
  • Agents for carrying out government monetary policy: They cany out policies of the government as directed by the Central Bank or other monetary authorities. For example, they can increase lending to priority sectors.
  • They facilitate foreign trade and travel: They issue travellers cheques to customers who are travelling abroad and help their customers to obtain foreign exchange, thereby facilitating foreign business transactions.
  • Creation of money: They create money through the ‘multiple expansion’ of their bank deposits. This involves granting credits through the use of cheques.
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Functions of Commercial Banks not performed by other Financial Institutions

Other financial institutions such as Mortgage Banks, Insurance Companies, the Stock Exchange etc. do not usually perform the following functions:

  • Creation of money involving the use Of cheques.
  • Safe-keeping of customer’s valuables.
  • Acting as trustees and executors of wills.
  • Facilitating foreign trade (except the Central Bank).

Major Terms uses in Commercial Banks

  • A cheque: This is an instruction in writing made upon a bank to pay a given sum of money to a named person or bearer at a specific date.
  • Bank notes: These are legal tenders, that is, notes issued by the Central Bank to be legally used as means of payment for goods and services.
  • Savings account: This is the most common form of bank account. It encourages the low income earners to form or develop the habit of saving. This type of account is operated with the use of a passbook. Owners are paid interest for keeping their money in the bank but if withdrawals are more than twice in a month, it may not attract interest.
  • Current account: This is the type of account that is operated with the use of cheque books. Money can be withdrawn as soon as the need arises. This type of account is usually operated by businessmen, or organizations, etc. It does not attract any interest but rather the owners pay the bank some economic charges. The owners can also apply for overdrafts and loans.
  • Fixed deposit account: This is the type of account that is usually operated by individuals and organizations who have excess liquidity. They put part of the excess liquidity in the fixed or time deposit account for a specified period of time. Owners of this type of account usually receive higher interest rates than savings account depositors.
  • An overdraft: This is a loan facility granted by a commercial bank to a customer, whereby he is permitted to draw upon his account( to overdraw) beyond the account deposited therein and up to an agreed amount. Interest is paid on the overdrawn amount.
  • Treasury bills: These are iirst-class securities issued by the government as a means of borrowing from the public. They have a fixed duration of time and a specified interest rate. They are discountable.
  • Treasury certificates: These are government financial securities which mature after a year. They are issued by the government through the Central Bank to either borrow or lend money in the capital market.
  • Bonds: A bond is a long-term financial security used to source for funds. Bonds may be issued by firms, or financial institutions e.g. commercial banks or governments.
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Bonds that are issued by the government are generally regarded as very safe.