Functions of Commercial Banks

Banks which finance trade and commerce are called Commercial banks.

Modern commercial banks perform mainly two types of functions.

I.        Primary functions

II.     Secondary functions.

I.                   Primary functions:

a)     Accepting deposits is the most important function of commercial banks.  They accept the following types of deposits from the public.

1.      Current account deposits:  These deposits are maintained by businessmen and deposits are payable on demand.  Money can be withdrawn any number of times by the depositors and no interest is paid on these deposits.

2.     Savings Account Deposits:  People with low income, salary earners etc, open these accounts. Certain restrictions are imposed regarding the number of withdrawals.  Rate of interest paid is low.

3.     Fixed Deposits:  refer to deposits made for a fixed period of time normally between 46days to 5years. The rate of interest is higher compared to savings bank deposits and the longer the period, the higher is the rate of interest.  These deposits are also called time deposits.

4.     Recurring Deposits:  refer to a specified sum of money deposited every month for a period of one year or more.  On maturity, the total amount accumulated is paid to the depositor along with interest, which is nearly the same as on fixed deposits.

b)     Advancing loans:  After keeping certain portions of cash reserves, banks lend remaining portion of deposits to the borrowers through the following ways.

1.      Overdraft:  It is a facility provided by a bank to its customers to overdraw their accounts up to a certain limit.  Interest is charged on the amount actually overdrawn by the customer.

2.     Cash Credit:  It is a type of loan given to the borrower against eligible securities.   The bank opens the account in the name of the borrower and allows him to withdraw the money from time to time up to a certain limit.  Interest is charged only on the amount actually withdrawn from the account.

3.     Loans:  It is a financial arrangement through which the bank provides credit to a borrower against collateral security.  The bank opens a separate account called loan account in the name of the borrower and the interest is charged on the entire amount sanctioned by the bank.

4.     Discounting of bills of exchange:  refers to encashing the bills of exchange from the banks by the customer before the date of maturity.  The bank deducts a certain amount (interest) from the face value of the bill and pays the balance to the person discounting the bill.

II.                Secondary functions:  The secondary functions of the commercial banks are classified into

a)    Agency services.

b)    General Utility Services.

a)   Agency services:  Commercial banks perform the following agency services for and on behalf of their customer.  They are

1.      Banks helps their customers in transferring funds from one place to another through drafts, cheques etc.

2.     Banks collect and pay various credit instruments like cheques, bills of exchange etc.

3.     Banks undertake buying and selling of various securities like shares, bonds etc

4.     They collect dividends on shares, interest on bonds on behalf of customers.

5.     They help their customers by making payments of their electricity bills etc.

6.     They preserve the Wills of their customers and execute them after their death.

7.     They provide advice on income tax matters to their customers.

b)   General Utility services:  Banks provide the following general utility services.

1.      They provide Locker facility to the customers to keep their valuables.

2.      They Issue travelers cheques to carry money safely while traveling within a country or abroad.

3.     They issue Letters of credit to their customers regarding their creditworthiness.

4.     They perform Underwriting of securities.

5.      They provide ATM, credit card and debit card facility.

Functions of RBI

The RBI was established on Ist April 1935 as a private share holders bank as per RBI act of 1934 and it was Nationalised on Ist January 1949.

     The RBI is managed and controlled by a central board of Directors with 20 members and the head office is located at Mumbai.

The functions of the RBI may be classified as follows:

A)  Traditional functions:

1.    Monopoly of Note Issue:  The RBI has the sole right to issue currency notes of denominations of Rs 10, 20, 50,100,500 and Rs 1000 under the minimum reserve system.

2.  Banker, agent and Advisor to the Government:  The RBI receives deposits and makes payment to the government and on behalf of the government.  It transfers government funds and manages public debt.

It represents the government in International institutions like IMF and World Bank and advices the government on important economic matters.

3.  Bankers Bank:  All the commercial Banks are regulated by the RBI with regard to Licensing, branch expansion, liquidity of assets etc.  Every commercial bank has to maintain certain portion of its total deposits in the form of cash reserves with the RBI.

4.     Lender of Last Resort:  When commercial banks are unable to get financial assistance from any other source, the RBI lends money by rediscounting the bills of exchange or against government securities.

5.  Clearing house:  As the RBI keeps the cash reserves of all commercial banks, it is easy for commercial banks to settle each other’s debts through the RBI without using cash.

6.     Leader of Money Market:  The RBI is the leader of money market in India and it controls the activities of commercial banks, financial institutions etc.

7.     Controller of Credit:  To control price level and to direct the flow of credit to essential activities, the RBI uses Bank rate policy, open market operation, variable reserve ratio and selective credit control methods.

8.     Custodian of Foreign exchange reserves:  The RBI maintains reserves in the form of Gold, silver and foreign exchange to back the issue of currency notes and to meet international payments.  It maintains the exchange rates and enforces exchange control and restrictions imposed by the government.

B. Developmental functions: The RBI performs the following     developmental functions.

1. Agricultural Finance:  The RBI has been providing advice and financial assistance to the co-operative credit institutions for the development of agriculture.

2.    Industrial Finance:  The RBI provides credit facilities to both small scale and large scale industries through SFC, IFCI, etc.

C. Other functions:

 1. Research Functions: The RBI collects and publishes information relating to agriculture, industries, finance etc to help the government formulate and implement its economic and monetary policies.  It also issues special bulletins, journals and research papers.

 2. Special functions:  The RBI conducts special debates and seminars, provides training facilities to bank staff, suggests remedies to solve poverty, inflation etc.