Introduction
Commercial Banks perform three key functions; (1) Keep your money safe, (2) Lending Money, (3) Simplifying Transactions.
Keeping Your Money Safe
Keeping large amounts of money under your mattress is a really bad idea. If it’s stolen or misplaced, it’s gone forever. When you keep your money in the bank, the Malaysia Deposit Insurance Corporation (also known as Perbadanan Insurans Deposit Malaysia, PIDM) will insure up to RM250,000 for you. Let’s say the bank fails (banks can run out of money), and you’ve kept all your savings (RM230,000) in the bank, PIDM will give you RM230,000 with no questions asked.
Segway: How do banks make money? Commercial banks like CIMB, Maybank, RHB, etc. lend money to those who want to take out loans. Here’s how it works:
- Say Jeff keeps RM100 in his savings account at Bank FLY.
- Jeff doesn’t need that RM100 now and puts it in the bank for safekeeping.
- Bank FLY pays Jeff a 3% interest on his savings.
- Now, Ali would like to borrow RM100 from Bank FLY, which charges him a 10% interest rate.
- Ali has to reimburse Bank FLY for RM110 while your account now has a balance of RM103 (remember the 3% interest rate offered from the previous page).
- As such, Bank FLY makes a profit of RM7.
This is a simplified representation of how banks operate, now imagine this at a much larger scale! Important note: Banks are unable to lend out 100% of their funds because they need to keep some funds in case someone needs it. This is known as a reserve ratio.
Lending Money
Banks lend money for all sorts of reasons. Individuals may want to obtain a loan to purchase a new car, house, or business. Fun Fact: Wealthy people may take out loans, even if they can pay for the item with cash. If interest rates are low enough, the overall cost may be cheaper. To illustrate this, say a wealthy individual, Abu, wanted to purchase a property. He could take out a loan (and pay off the mortgage) or purchase it entirely in cash.
Taking out a loan may be preferable as his assets grow (with the new house purchase), and his cash flow remains stable (as he pays installments). If he purchased the property entirely in cash, his cash flow might suffer.
Simplifying Transactions
The Bank Of England estimates that over 500 billion pounds (2.8 trillion ringgit) worth of transactions pass through bank accounts every day. Banks offer products that help streamline our everyday dealings like credit and debit cards. Imagine carrying cash with you to get on with your day-to-day business. It would be easy to misplace your money. All of the banks have a mechanism of communicating in order to authorize the transactions from individuals to businesses.
Bank Negara Malaysia
To ensure that these transactions run smoothly, this is where our central bank, Bank Negara Malaysia, comes in. They also formulate a regulatory framework and oversee large value and retail payment systems. You cannot go up to Bank Negara and ask for a loan. Bank Negara Malaysia or any country’s central bank plays an essential role in ensuring financial stability. Bank Negara Malaysia is responsible for controlling and printing Malaysia’s money supply. They make an effort, using monetary policy to keep prices “stable”: If I go out tomorrow, they make sure that my lunch will not cost me RM100.
If you’d like to read more about central banks, like Bank Negara Malaysia keep the economy stable, check out our previous article on interest rates: (Click this link)
Points to Remember
Commercial banks offer more services than the ones listed in this infographic. Many banks provide different specialized services for their clients. They could help their clients in investing or advise them on financial matters, as well as offer customers special offers tailored to their needs. It’s important to remember that commercial banks are, first and foremost, businesses, liable to their shareholders. This is where Bank Negara differs since it is accountable to Malaysians and society as a whole.
References:
Bnm.gov.my. n.d. Role of Bank Negara Malaysia – Bank Negara Malaysia. [online] Available at: <https://www.bnm.gov.my/role-of-bank-negara-malaysia> [Accessed 12 February 2022].
Bankofengland.co.uk. n.d. What do banks do?. [online] Available at: <https://www.bankofengland.co.uk/knowledgebank/what-do-banks-do#:~:text=UK%20banks%20help%20people%20manage,high%20street%20cash%20machine%20withdrawals.> [Accessed 9 February 2022].
Researcher: Emil Zaydan
Reviewer: Muhammad Bahari
Editor: Jessie Gan
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