Banking: Traditional V/S Modern

Introduction to the concept:

Earlier, there used to be a barter system, in which everyone was involved in one way or the other. Do you know that it was a part of banking as it involved the exchange of services also. Most of us would know how the word ‘bank’ was derived. But before that, people used to go money lenders lie shahukars, Baniyas, rich landlords who used to lend money to needy people and used to charge a very high interest from them and also ask people to give some mortgage as security and when people were unable to repay high interest then they forceful acquire properties of people and thereby used to do exploitation of poor class people.

As the time went on, to replace barter system and avoid exploitation of poor people by a rich class, an institution was set up (which we call today as Bank) whose primary function was to accept deposits from people (Savings of people) and grant loans to needy people at a reasonable interest rate. But with the passage of time, Bank as institution started providing more facilities like cheque, overdraft, ATM card, Credit facility, locker facility, and many more.

Modern Banking is backed up heavily by technology and digitalization which drastically reduces the time for any bank services and also avoids a frequent visit to physical bank branches.

How Bank works and earns income:

The main source of bank earnings is interest income, i.e. income earned from charging interest to borrowers. People park their savings in the bank as deposits either in a fixed deposit or in a savings account. And for parking their savings in the bank, they offer interest in return. Interest percent is generally less, depending on country to country and also on the inflation rate. In India, savings bank interest ranges from 3% to 7% depending upon the amount deposited and also the type of bank i.e. public or private. And while advancing loans bank charges higher interest rates as compared to savings account interest rate they offer. Interest rates on loans also vary from country to country and also depend on the type of loan creditworthiness, tenure of the loan, loan size, payment frequency, and many other factors. Interest rates on loans generally range from 6.5% to 36%.

Example:

Mr. A deposits his savings in Bank and in return bank offers 3% as interest. On the other hand, the bank advances loan to Mr. B and charges 8% from him. The difference between savings account interest and interest on loans (which is called Spread, 5% in our example) becomes income for the bank.

In modern banking, apart from interest income, banks also earn through various ways like imposing charges or commission for the service provides to customers. Bank charges for services like SMS charges, ATM Debit card charges, Commission for transferring funds, and many more.