Definition of Bank

A bank loan is a sum of money provided by a bank to a customer for a specific purpose, such as purchasing a house, starting a business, or other personal financial needs. The loan is typically provided under the condition that the borrower will repay it with interest over a set period.

The key elements

1. Collaterals/Security: When a customer takes out a loan, the bank may require collateral to secure the loan. Collateral refers to any valuable item (such as property, equipment, or savings) that the bank can take possession of and sell to recover the loan amount in case the borrower fails to repay. This reduces the risk for the bank.
2. Fixed rate of interest: A bank loan typically comes with an interest rate, which is a percentage of the loan amount that the borrower must pay in addition to the principal amount. In many cases, the interest rate is fixed, meaning it does not change throughout the loan term. This provides the borrower with predictable monthly payments and ensures the bank earns a stable return on the loan.
3. Loan repayment: The borrower agrees to repay the loan in installments over a period, which may vary depending on the loan agreement. The repayment schedule and interest are outlined in the loan contract.

1. Credit worthiness of a person: Creditworthiness refers to the borrower's ability to repay the loan based on their financial history. Banks assess the borrower's credit score, previous loan repayment records, and financial behavior. A high credit score suggests that the borrower has a history of paying debts on time and is more likely to repay the loan. If a borrower has poor credit history or defaults on previous loans, the bank may hesitate to approve the loan or offer it at a higher interest rate.
2. Objective for the loan: Banks want to know the purpose for which the borrower intends to use the loan. The objective should be legitimate and aligned with the bank's lending policies. Common reasons for loans include purchasing a home, starting a business, or covering educational expenses. A clear and reasonable objective helps the bank assess whether the loan is being used for productive purposes, reducing the risk of default.
3. Period for which the loan is to be used: The loan period refers to the duration over which the loan will be repaid. The bank assesses whether the loan term is appropriate for the borrower's needs and financial situation. A short-term loan is often given for quick needs like emergency expenses, while a long-term loan may be used for large investments such as buying property. The period also affects the interest rate; generally, long-term loans may have higher interest rates.
4. Whether the borrower is a bank customer or not: A bank is more likely to lend to individuals or businesses that already have an established relationship with them. A long-standing customer with a good account history, steady deposits, and past successful transactions with the bank is considered a lower risk. New customers or those with no prior history may face stricter scrutiny, as the bank has less information about their financial reliability.
5. The economic integrity of the applicant: This refers to the applicant's overall financial stability and reputation. The bank will assess the applicant's income sources, employment status, business performance (if applicable), and other factors that contribute to their economic standing. For businesses, factors such as the company's profitability and market position are considered. A borrower with a stable and trustworthy economic background is less likely to default.
6. Value of the security presented: When a loan is secured by collateral, the bank evaluates the value of the security presented by the borrower. Collateral could be real estate, machinery, or other valuable assets. The bank will assess whether the security is of sufficient value to cover the loan in case of default. The value of the security is critical in reducing the bank's risk, and the bank may only lend up to a certain percentage of the collateral's value (known as the loan-to-value ratio).
7. Amount of money required by the borrower: The bank will assess the total amount of the loan requested by the borrower to ensure that it is reasonable based on the borrower's financial capacity. If the borrower requests too large an amount, the bank will assess whether the borrower can realistically repay it, taking into account their income, other financial obligations, and creditworthiness. In some cases, the bank may approve only part of the requested amount.
8. The government policy on lending: Banks are also influenced by national and international economic conditions, including government policies on lending. For example, the government may impose regulations on lending practices, such as interest rate caps, loan terms, or requirements for certain types of loans (e.g., for housing or education). The bank must comply with these regulations and may consider them when deciding whether to approve a loan. Additionally, government policies may encourage or discourage lending in certain sectors (e.g., agriculture, housing) based on national priorities.

Bank loans are typically divided into three categories based on the duration of repayment. These categories are:

i. Short-term loan

A short-term loan is a type of loan that is typically repaid within a year or less. These loans are designed for immediate financial needs and are often used by businesses to manage cash flow or by individuals for short-term personal expenses. Examples include working capital loans for businesses, personal loans for emergencies, or credit lines with short repayment periods.

1. Purpose: Used for short-term financial needs, such as paying bills, managing day-to-day business operations, or covering unexpected expenses.
2. Interest rates: These loans often have higher interest rates compared to long-term loans due to the shorter repayment period and higher risk.
3. Repayment period: Generally, the loan is expected to be paid off within 12 months.

ii. Medium-term loan

A medium-term loan is a loan that is typically repaid over a period ranging from one year to five years. These loans are often used for purposes such as purchasing equipment, expanding a business, or financing education. The loan repayment is more spread out than a short-term loan, giving the borrower more flexibility while still having a relatively short timeframe for repayment.

1. Purpose: Used for medium-term goals like purchasing machinery, expanding operations, or funding educational programs.
2. Interest rates: Interest rates for medium-term loans are usually lower than short-term loans but higher than long-term loans.
3. Repayment period: Typically repaid over 1 to 5 years.

iii. Long-term loan

A long-term loan is a loan that has a repayment period extending beyond five years. These loans are typically used for large-scale investments, such as purchasing a home, building infrastructure, or funding large business projects. Because the repayment period is longer, the monthly payments tend to be lower, but the total interest paid over the life of the loan can be higher.

1. Purpose: Used for long-term investments, such as buying property, constructing buildings, or long-term business expansion.
2. Interest rates: These loans generally have lower interest rates compared to short- and medium-term loans due to the extended repayment period and lower risk for the bank.
3. Repayment period: The loan is typically repaid over 5 years or more, and in some cases, even up to 30 years, particularly for mortgages.

A bank draft is a secure payment method where a bank issues a cheque in favor of a named person or business. The key feature of a bank draft is that the payment is guaranteed by the bank. The customer must pay the full amount upfront to the bank before the draft is issued. This ensures that the recipient is guaranteed to receive the funds, as the bank holds the money.

1. How it works: The customer requests the bank to issue a draft, pays the equivalent amount into their account, and the bank issues the draft. The payee can then deposit or cash the draft.
2. Purpose: Commonly used for larger, more secure payments, such as for purchasing property or paying suppliers.
3. Bank-to-bank transactions: A bank draft can also be issued between banks, where one bank sends funds to another bank on behalf of a customer or for payment to a named individual.

A standing order is an instruction from a bank customer to automatically transfer a fixed sum of money from their account to a named individual or company at regular intervals, such as monthly or annually. The customer authorizes the bank to make these payments on specific dates without further instructions.

1. How it works: The customer sets up a standing order with the bank, specifying the amount to be paid, the recipient, and the payment schedule. Once set up, the bank automatically processes the payments as per the agreed terms.
2. Purpose: Often used for recurring payments such as rent, subscriptions, insurance premiums, or loan repayments.
3. Key feature: The payment amount and schedule are fixed by the customer, and the bank carries out the transfers automatically.

A direct debit is similar to a standing order, but it is initiated by the payee (the company or individual receiving the payment), not the payer (the bank customer). With direct debit, the payee has the authority to request the bank to deduct fixed or variable amounts from the payer's account on agreed dates.

1. How it works: The customer authorizes the payee to collect payments from their account. The amount can vary (e.g., for utility bills) or be fixed (e.g., for subscription services).
2. Purpose: Commonly used for payments like utility bills, gym memberships, or subscription services.
3. Key difference from standing orders: While a standing order is set by the payer and the amount remains fixed, a direct debit is controlled by the payee, and the amount can vary based on the agreement.

A credit transfer system is when a bank customer authorizes their bank to transfer money directly into the account of a named individual or business. Payments are made electronically into the recipient's bank account, without the need for paper-based methods like cheques.

1. How it works: The customer provides the bank with details of the recipient's account and authorizes the bank to transfer the specified amount to that account.
2. Purpose: This system is commonly used for paying wages, supplier payments, or any direct electronic transfer of funds.
3. Key feature: The payment is made directly into the recipient's bank account, making it faster and more secure than traditional methods.

A traveller's cheque (T.C.) is a pre-paid cheque issued by a commercial bank to individuals who are planning to travel, particularly to distant or international locations. The cheque acts as a safe and convenient means of carrying money while traveling.

Key features of traveller's cheques

1. Prepaid: The person buys the cheques in advance and pays for them upfront.
2. Security: The cheques are replaceable if lost or stolen, making them safer than cash.
3. Denominations: Traveller's cheques can be issued in various denominations in local or foreign currencies, depending on the travel destination.
4. Global acceptance: They are widely accepted in many countries and can be used in hotels, shops, and banks.
5. Signature requirement: The traveller must sign each cheque when they receive it from the bank, and again when they use it for payment.

1. Some shops and hotels may be willing to accept personal cheques:
   While traveller's cheques are widely accepted in various establishments, some shops and hotels may also accept personal cheques. This provides additional flexibility for the traveler, as they may not have to rely solely on cash or credit cards. Personal cheques, however, are less secure than traveller's cheques, which are guaranteed by the bank.
2. They are available in various currencies:
   Traveller's cheques are issued in a variety of currencies, including local currency (for domestic travel) and foreign currencies (for international travel). This makes it easier for travelers to carry the appropriate currency for their destination without having to convert cash at foreign exchange counters. It also helps avoid currency exchange fees, as the cheques can be used directly in the country's currency.
3. They are safer to carry than cash:
   One of the primary advantages of traveller's cheques over cash is the safety they provide. If a traveller's cheque is lost or stolen, it can be reported to the bank, and the bank will cancel the cheque and issue a replacement, provided proof of loss is presented. In contrast, if cash is lost or stolen, it cannot be recovered. This makes traveller's cheques a much safer option for carrying money during travel.
4. They are easy to carry compared to hard cash:
   Traveller's cheques are convenient because they are easier to carry than large amounts of cash. They are often issued in small, lightweight denominations, making them easier to store securely (e.g., in a wallet or travel pouch) and manage during travel. This is particularly useful when traveling to places where carrying large sums of cash may not be practical or safe.
5. Traveller's cheques may be given in different denominations:
   Traveller's cheques come in various denominations, allowing the traveller to choose the most appropriate value for their needs. These denominations are often similar to those of paper currency, making them easy to use for a wide range of transactions. For example, a traveller can request cheques in denominations of $50,$100, $500, or more, depending on the amount they wish to carry or spend. This flexibility allows for better financial planning during a trip

The central bank uses various tools to control money circulation in the economy. These tools include:

i. Bank rate: The bank rate is the interest rate at which commercial banks can borrow money from the central bank in times of need, usually as a last resort. When the central bank increases the bank rate, it becomes more expensive for commercial banks to borrow money, leading them to raise interest rates for loans to the public. This reduces borrowing and decreases the money supply.

ii. Open market operations (OMO): Open market operations involve the central bank buying and selling government securities. When the central bank sells securities, it withdraws money from circulation as buyers use their bank deposits to purchase them. Conversely, buying securities increases the money supply by injecting funds into the economy.

iii. Selective credit control: Selective credit control is a policy where the central bank directs commercial banks to lend to certain sectors and restrict lending to others. This helps control the amount of credit available to the economy and can target specific sectors for development while limiting excess lending in others.

iv. Reserve requirement: The reserve requirement is the percentage of customer deposits that commercial banks must keep in reserve at the central bank. Increasing the reserve requirement reduces the amount of money banks can lend out, thereby decreasing the money supply. Lowering the reserve requirement allows banks to lend more, increasing the money supply.

Inflation is a situation in an economy where there is a persistent rise in prices of goods and services over time. This results in the decrease of purchasing power of money, meaning that people are able to buy fewer goods with the same amount of money.

Deflation is the opposite of inflation and refers to the decrease in the overall price level of goods and services in an economy over a period of time. It can occur when the supply of money is reduced or when there is a decrease in demand for goods and services.

Co-operative banks are financial institutions that are formed to cater to the needs of specific groups, particularly farmers and rural communities. These banks operate on the principles of mutual help, and their goal is to provide financial services, such as loans and credit, to their members, often at favorable terms.

i. Lends money to members: Co-operative banks provide loans to their members, typically at lower interest rates than commercial banks. These loans are often provided for purposes such as purchasing farming equipment, expanding agricultural production, or improving living standards. Since the co-operative bank operates on mutual assistance principles, it prioritizes lending to its members to support their economic activities.

ii. Keeps money for members: Co-operative banks act as a secure place for members to deposit their savings. These savings can be in the form of regular deposits or fixed-term accounts. By providing a safe place for members' money, co-operative banks encourage saving habits and ensure members can access their funds whenever needed.

iii. Assists farmers with farming advice: Co-operative banks offer valuable advisory services to farmers, helping them improve agricultural practices. This may include guidance on crop management, soil fertility, pest control, and market trends. Such assistance helps farmers enhance productivity, reduce costs, and improve their income.

iv. Assists members with transport facilities: Co-operative banks help members access transport services, especially in rural areas where transportation can be a challenge. This support includes facilitating the transport of goods, such as agricultural produce, to markets or providing transportation for members to reach banking services and other essential locations.

v. Promotes economic development: Co-operative banks contribute to local economic development by offering financial services to underserved populations, such as small-scale farmers and entrepreneurs. They help stimulate local economies by fostering entrepreneurship and self-reliance, thereby improving the overall economic health of the community.

vi. Encourages community development: Co-operative banks invest in local community development projects, such as building schools, health centers, and infrastructure. By supporting these initiatives, they help improve the living conditions of members and promote a sustainable, prosperous environment for the entire community.

Commercial banks are financial institutions that provide a range of financial services to businesses and the general public. They are profit-driven entities that primarily offer services like accepting deposits, lending money, and facilitating various forms of financial transactions.

i. Stores money and jewels for customers: Commercial banks provide safe storage services for customers' money, valuables, and important documents, such as jewellery. Customers can rent safety deposit boxes within the bank to store items securely, offering protection against theft or loss.

ii. Transfers money for customers:
Commercial banks facilitate various forms of money transfers for customers. These include:

• Cheques: Allowing customers to make payments or transfer money through written orders.
• Bank drafts: Providing guaranteed payments to named individuals.
• Standing orders: Enabling customers to authorize regular payments to be made automatically.
• Credit transfers: Allowing money to be transferred directly into another person's account.
• Traveller's cheques: Providing a secure means of payment for travelers.

iii. Advises customers on business and investment matters: Commercial banks offer advice and guidance on business expansion, financial planning, and investment strategies. They help customers understand how to make better financial decisions, such as diversifying their investments or managing business cash flows.

iv. Buys and sells stocks and shares for customers: Commercial banks also act as intermediaries for the buying and selling of stocks, bonds, and shares. This service allows individuals and businesses to participate in financial markets and manage their investment portfolios efficiently.

v. Acts as a trustee for customers: In some cases, commercial banks are appointed as trustees for their customers. This means they manage assets or property on behalf of customers, ensuring that the terms of trusts or agreements are fulfilled and the assets are safeguarded.

vi. Collects money for customers: Commercial banks offer collection services for payments such as bills, taxes, or other receivables. They can act as agents for customers to collect and deposit money, saving customers time and ensuring that payments are processed quickly and securely.

vii. Provides financial advice and services: In addition to advising on investments, commercial banks provide general financial advice, such as managing personal finances, retirement planning, and tax efficiency. They also assist with products like savings accounts, loans, and insurance to help customers make informed financial decisions.