Types of Financial Institutions Commercial BanksCommercial Banks –Commercial banks offer checking services, accept deposits, and make loans. Savings and Loan Associations (S & L’s)Savings and Loan Associations (S & L’s) –Savings and Loan Associations were originally chartered to lend money for home-building in the mid-1800s. Savings BanksSavings Banks –Savings banks traditionally served people who made smaller deposits and transactions than commercial banks wished to handle. Credit UnionsCredit Unions –Credit unions are cooperative lending associations for particular groups, usually employees of a specific firm or government agency. Finance CompaniesFinance Companies –Finance companies make installment loans to consumers.
Banking Services Banks perform many functions and offer a wide range of services to consumers. Storing Money (Service #1) Banks provide a safe, convenient place for people to store their money. Credit Cards Banks issue credit cards — cards entitling their holder to buy goods and services based on each holder's promise to pay later. Saving Money: (Service #2: Earn Money) Four of the most common options banks offer for saving money are: 1. Savings Accounts2. Checking Accounts 3. Money Market Accounts4. Certificates of Deposit (CDs) Loans (Service #3: Borrow Money) By making loans, banks help new businesses get started, and they help established businesses grow. Mortgages A mortgage is a specific type of loan that is used to purchase real estate.
BANK How Banks Make a Profit Deposits from customers Interest from borrowers Fees for services Money enters bank Money leaves bank Interest and withdrawals to customers Money loaned to borrowers: business loans home mortgages personal loans Bank’s cost of doing business: salaries taxes other costs Bank retains required reserves How Banks Make a Profit The largest SOURCE OF INCOME for banks is the INTEREST they receive from customers who have taken loans. Interest is the price paid for the use of borrowed money.
How Do Banks Make Loans? FRACTIONAL RESERVE BANKING FRACTIONAL RESERVE BANKING A bank keeps only a fraction of funds on hand and lends out the remainder. $10,000 Deposit Reserve Requirement 20% ($2,000 Retained) $8,000 Loanable Funds
Banking Deregulation Bank Mergers Deregulation led to mergers; no more restrictions on interstate banking Advantages: more competition meant low interest rates, more services also more branches; economies of scale, especially for technology Disadvantages: fewer banks to choose from fear larger banks uninterested in small customers, local communities
Banking Deregulation Banking Services Financial Services Act of 1999 lifted last restriction on banks Banks, insurance companies, investment companies compete sell stocks, bonds, insurance, traditional banking services Customers continue to use different companies for different services
Housing Boom and Bust From 2000 to 2006, house prices in the U.S. skyrocketed. Many factors contributed to this boom, but bank lending practices played a major role. Deregulation changed banks from local institutions into national megabanks. Instead of collecting payments on a mortgage for 30 years, banks began to sell these loans to other financial institutions for a quick profit.
Housing Boom and Bust Banks became less interested in verifying that clients could repay a mortgage and more interested in making as many mortgage loans as possible. The easy money fueled the housing price bubble.