FUNCTIONS OF BANKING A bank is usually thought of as a reliable agency with which money is deposited. This idea is an approximation to the truth, but it is wanting in precision. A bank must be distinguished from a mere depository, one who receives a package of valuables for safe custody and undertakes to return it unopened. Banks do receive valuables on those terms, but that is only a subsidiary function. It is usually jewellery, deeds, securities and similar arti cles, not money, that they receive. But if a bank does receive a package of money on those terms, that does not constitute a bank ing transaction. A bank must also be distinguished from a trustee, who receives money and invests it or otherwise uses it according to the terms of his trust, and has to account in detail for every thing he has done with it. Banks may undertake to act as trus tees, but this again is a subsidiary function.
The services rendered by a bank either as depository or as trus tee are not a part of banking. For the sums deposited with it in its capacity as a bank the bank is neither depository nor trustee; it is simply a debtor. For what purpose then does a bank exist? What services does it render in its capacity as debtor to its cus tomers or depositors? The services fall under three main heads:
It provides safekeeping for people's money. This is the same service as is performed by a depository, but it is performed in a different way. Instead of the money being set apart in a strong room, it is replaced by a debt due from the banker. If the solvency and probity of the banker are sufficiently well established, it may be actually safer so.
( 2) The bank provides a temporary investment for money, paying interest so long as the money is retained, and repaying the principal on its being claimed in accordance with the contract (usually on an agreed notice being given). This is useful to two classes of people. (a) Those whose savings are too small to be dealt with conveniently through the machinery of the investment market or stock exchange; (b) Traders who in the course of business find large sums of money in their hands, but who expect to have to use the money in business again soon.
It is for the former class that Savings banks and the savings departments of ordinary banks exist. People of small means want to invest small sums at a time, and they also want to be able to withdraw the sums invested at any time in case they need them. Accordingly a savings bank receives small deposits, and gives the depositors the right of withdrawing their money at short notice. This right of withdrawal is the characteris tic of a temporary investment, but in practice the savings bank depositor intends his investment to be permanent, and only to be withdrawn in case of an emergency. Traders on the other hand need a really temporary investment. They want to receive some interest on idle money in the interval before they need it again for employment in business. The right of withdrawal will actually be exercised after a few months or even weeks. The sums deposited will be large, but investment through the Stock Exchange or in mortgages would be inappropriate because it would involve ex penses, commission, etc., and a possible loss on realization. When a bank is employed as an agency for temporary investment, it must use the funds entrusted to it to earn interest. The manner in which it does so is described below. (See SAVINGS BANKS.) (3) Means of Payment.—A third service performed by a bank, and one which over-shadows the other two, is the provision of a means of payment.
Payment is the process by which a debt is discharged. Money is the means established by law for discharging debts. The debtor has the right to pay his debt in money, and the creditor has the right to require payment in money. But the use of money may not be the most convenient means of payment either to the debtor or to the creditor. And there is an alternative. A debt may be discharged by being set off against another debt. This is quite simple where each of two people is indebted to the other. If A and B are trading together, and A owes B
while B owes A Igo, they can settle B's debt by deducting it from A's, so that A merely owes B the balance of f I o. They may carry forward the balance from account to account, so that money need only be paid in relatively small sums to discharge balances at infrequent intervals.
But in general a man's creditors are not the same people as his debtors, and this simple direct sys tem of set-off is not possible. A bank may be regarded as an agency for extending the discharge of debts by set-off to that case. Sup pose a group of people indebted to one another. If the creditors assign their rights to a banker, he becomes the debtor of all the creditors and the creditor of all the debtors. Each man's debts can then be deducted in the banker's books from his credits, leav ing a net balance. Some people's debts will exceed their credits, and for them the net balances will be debit balances. If it were desired to complete the settlement at a particular moment so that all debts are discharged, those with debit balances would have to pay the amount due to the banker, and he would distribute the amount received among the creditors. If all the debtors paid up, all would then be quits.
But people do not want money except as a means of payment. For the major payments a transfer in a bank's books is a more convenient means than money. Consequently the creditors prefer not to have their credits paid off in money. They prefer to hold balances of bank credit or credit money, that is to say, debts due from the banker, which can be used as a means of payment. If the banker is solvent, he must hold equivalent assets against his liabilities. These are provided by the debtors. It is not necessary that the debtors should pay in money. The banker may consent to let a customer remain in debted for an agreed period and pay interest on the amount. Or the banker may buy investments and himself become indebted for their value. The sellers of the investments acquire equivalent bank credits which when spent will pass into other people's hands. Any one who would otherwise be indebted to the banker can extin guish his indebtedness if he can acquire a share of these bank credits by selling something. There being a persisting demand for bank credit as a means of payment, the banker can remain con tinuously indebted to his customers for sums equal to the work ing balances that they find it convenient to hold available to be drawn upon for the payments they must make from day to day. Any one customer's balance will fluctuate widely, but the aggre gate of all balances will be comparatively stable.
