What is the business of banks? You know they manage tons of money, but how do they earn it?
Instead of boring you to death with excessively complex terms, this article will explain it all to you in a very easy-to-understand fashion, so you can see how banks earn their money.
We have decided to divide this article in 5 points, so you can assimilate it all without problems. Without anything more to add, let’s begin!
Banks Are Businesses:
The first point to understand is that banks are businesses, and therefore, they are in for making money. They do through different ways that we will analyze in this article.
However, just like any other businesses, they also have costs to pay. They need to have enough money to run the business, pay their employees and take care of their locations and facilities.
Another point to take into account is that shareholders run banks, and therefore, own them as well. That is why they are listed on the stock market, so if you have enough capital then you can buy your share of any bank.
Banks, just like any other business, have different services. That is how they make money, and here you have a list of them:
- Fees for their services
Loans are not solely using for pulling a profit, but they are a money-making process as well. In fact, banks are the largest money creators, and they do it by lending money.
Another way by which they earn money is by charging fees on services they offer like saving and checking accounts, credit cards, investments, etc.
These are the three main ways by which they make money, and we will talk more about them in detail in the following points.
One of the keys to keep this business running is to encourage as many people as possible to deposit their money with them. That is how they can stay in business, because they use these deposits to earn money.
One of the most popular strategies for doing so is to offer interests to people who deposit their money with them.
But how is this interest created? Once again, we need to talk about loans. They create this by lending this money to other customers, because at the moment of doing so the other people will have to pay a certain interest. That is how they do so.
Another way by which they can offer interests to people who deposit their money is by lending money to other banks. Although, unlike loans to customers, these are short-term.
These are their strategies to keep the business running: encourage people to deposit, pay them interests and do so by lending money.
Foreign Currency Trading:
Another strategy banks use to earn money is by buying currencies from all over the world and trading them. Foreign currency trading can be highly profitable when done correctly, and banks have experts who can do so.
Even though banks do not depend on this entirely, it is one of their strategies for diversification.
It requires plenty of skill, patience and proper strategy to make this profitable, but as banks have entire teams of professionals dedicated to this, they are capable of doing so.
As you have been able to see thorough this article, lending money is the principal activity by which banks earn money. Not only that, because they also create money through this process.
Understanding how loans work, and the possible negative consequences it can have, will require a bigger and more detailed article, but in short: thanks to them banks create money out of nothing.
If nothing backs up this new money, then you can easily guess that it is not so good after all…
However, this process of lending money is what creates the majority of money in most countries, especially in the US and UK.
You may not be a banking expert after reading this article, but for sure, you know a lot more than before. If you have any question, feel free to leave it in the comments so we can answer it. Don’t forget that you can learn more about banking at Market Review.