In societies where banks have more credibility, there is also a higher level of economic prosperity. The role of banks and financial institutions in the economy is much more significant than what is generally perceived by the public. Although banking systems are under the control of governments and follow their overall policies, they are considered the source of many economic transformations and changes in countries. Understanding their role and responsibilities better illustrates this point.
What is the role of banks and financial institutions in the economy?
To answer this general question, it is first necessary to consider that the duties banks have undertaken have evolved over time. Their traditional functions have gradually acquired much broader dimensions, and now, in many situations, they hold the active pulse of countries’ growth and development.
At first glance, banks and financial institutions seem like a very large safe, storing a vast amount of the country’s currency, significant amounts of foreign currency, and a heavy weight of gold. Perhaps such a traditional space existed in banks in the past; however, in today’s fast-paced and growing world, with astonishing technological developments, the role of banks and financial institutions in the economy is far more remarkable than before, and they can no longer just be considered a place to keep assets safe from thieves.
In general, several essential roles can be attributed to banks, which we will introduce below.
Financial and Commercial Intermediaries
The most prominent and significant function of financial institutions, credit centers, and various banks is to act as intermediaries. They serve as a large and solid channel connecting investors and beneficiaries. They also receive the money and assets of savers and make it available to borrowers, playing a crucial role in creating financial balance in society. Besides banks, insurance funds and retirement institutions also perform this important duty.
Gathering small and large capitals from different strata and converting them into a massive volume of national capitals positions banks among the most important providers and supporters of projects that contribute to the development of a country’s infrastructure. Banking policies can effectively stimulate the engines driving national projects and their development.
Safe Places for Savings
Banks, credit institutions, and reputable financial unions and similar centers are safe places for people to save their cash assets. Although keeping cash is not as common as in the past, converting their value to electronic money or credit and recording assets must go through the necessary processes in banking systems. Mobilizing dormant deposits for large and public benefit utilizations also enhances the value of depositing or saving in banks.
Reducing Transaction Costs
The role of banks and financial institutions in the economy is not limited to receiving funds and transferring them to their recipients. These reputable national institutions facilitate significant and broad transactions – namely, their intermediary role – helping to significantly reduce the considerable costs of finding customers or borrowers and securing the credit of the lender.
In fact, banks, through an efficient system without time-consuming and unnecessary processes, bring lenders and borrowers together and create guarantees for both parties.
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Facilitating Trade
A dynamic market indicates active trade, and successful commerce owes much to environments and platforms that are easy, comfortable, secure, and effective. Banking systems strive to design, approve, and implement beneficial laws for both depositors and beneficiaries in the bank, creating effective trading environments.
Liquidity Provision
Addressing life’s needs and fulfilling them requires a constant source for providing the necessary cash. This liquidity can be in the form of funds that individuals can access at any time by visiting the bank or through ATMs, or in the form of electronic credit and credit cards that facilitate access to funds and their receipt or transfer, thus shaping the role of banks and financial institutions in the economy in people’s daily lives.
Defining the processes for paying government employees and retirees within banking mechanisms also ensures that beneficiaries, employees, and other eligible individuals have access to their monthly wages.
Offering Securities and Selling Shares
Financial and credit institutions or banks serve as places for offering securities, allowing applicants to proceed with purchasing and acquiring their desired securities with the assurance of government backing and support through banking systems.
Centralizing Idle Capitals
The diversity of banks in any country is considered a positive aspect for economic growth and prosperity. If we examine the role of banks and financial institutions in the economy closely, we clearly see that financial and credit institutions and banking policies, by being in a competitive environment, strive to attract more idle capitals towards themselves by offering more advantageous and profitable benefits.
As all these reputable financial centers operate under the supervision of central banks, they have the capability and opportunity to gather aimless, dormant, and unused capitals in one place and employ them in the path of growth and development.
Influencing and Controlling the Market
Worldwide, banking systems are among the most effective factors in shaping inflation and its increase or decrease or related fluctuations. The financial policies that the central bank adopts affect the country’s inflation rate, and for this reason, these actions sometimes lead to public dissatisfaction.
The simplest and most obvious explanation is that banks, by determining the interest or bank profit rates paid on capital deposits, play a significant and decisive role in directing investments. For example, when the profit derived from depositing in the bank increases, the general inclination to deposit there also grows, thus attracting capitals in the private sector, industries, factories, and other development fields decreases, negatively impacting industrial growth and increasing inflation.
Conclusion
Examining the role of banks and financial institutions in the economy highlights their widespread importance. These important financial and credit centers play multiple roles in different societies: acting as financial and commercial intermediaries, providing safe places for savings, reducing transaction costs, supplying liquidity, offering securities and selling shares, centralizing idle capitals, and influencing and controlling the market.
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By David Taha