Q:

What is the role of commercial banks in the economy?

A:

Commercial banks link parties with excess funds to those with a deficit of funds. They also foster economic growth, underwrite securities, act as monitors and minimize instabilities, according to Franklin Allen and Elena Carletti in "The Oxford Handbook of Banking." Banks are important players in payment systems, reports economist Sanderson Abel for The Herald.

Banks act as intermediaries, bridging depositors with excess funds to borrowers who need the funds, notes Abel. By availing financing to businesses and even governments, banks contribute to economic growth. Depositors benefit from the banking system by having a safe place to keep their money and interest paid to their accounts and from the pooling of risk. Banks act as financial shock absorbers, providing emergency liquidity in the form of credit and overdrafts for many businesses and households.

Maturation transformation of financial instruments is another important role that these financial institutions play. They take short-term deposits and invest in longer-term instruments. By doing so, they buoy financial markets. Banks are often forced to act as informal monitors because they have to constantly check the repayment abilities of borrowers. With electronic funds transfers and remittances to plastic cards, banks are also an important player in global payment systems, reports Abel. They smooth out irregularities in financial markets by providing funds when needed and absorbing them when they are not.


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