Brief Introduction about
Bank:
A bank is a financial institution and a financial
intermediary that accepts deposits and channels those deposits into lending
activities, either directly or through capital markets. A bank connects
customers with capital deficits to customers with capital surpluses
Sources Of Banks Funds:
A bank is a business firm. Its main aim is to earn profit. In order to achieve this objective it provides services to the customers. It offers a variety of interest bearing obligations to the public. These obligations are the sources of funds for the bank and are shown on the liability side of the balance sheet of a commercial bank. The main sources which supply funds to a bank are as follows:
A Bank’s Own Funds.
B Borrowed Funds.
A bank is a business firm. Its main aim is to earn profit. In order to achieve this objective it provides services to the customers. It offers a variety of interest bearing obligations to the public. These obligations are the sources of funds for the bank and are shown on the liability side of the balance sheet of a commercial bank. The main sources which supply funds to a bank are as follows:
A Bank’s Own Funds.
B Borrowed Funds.
1.
Bank’s
own funds.
Bank’s own funds are mainly of three types;
(a) Paid up capital.
(b) Reserve fund.
(C) Portion of undistributed profit.
(A) Banks Own Funds.
(A) Banks Own Funds.
1. Paid up capital
Bank’s own paid
up capital. The amount with which a banking company is registered is called
nominal or authorized capital. It is the maximum amount of capital which is
mentioned in the capital clause of the memorandum of association of the
company. Capital is further divided into (i) paid up capital and (ii)
subscribed capital. The banks in Pakistan raise authorized capital by issuing
ordinary shares of Rs. 10 each which are fully paid up.
2. Reserve fund.
2. Reserve fund.
Reserve is another
source of fund which is maintained by all commercial banks. At the time of
declaring dividend, a certain portion of the profit is transferred to the
reserve fund. This reserve belongs to the .shareholders and at the time of
liquidation, the Shareholders are entitled to these reserves along with the
capital.
The main purpose of setting aside part of profit is to meet unforeseen expenses of the bank. The Banking Companies Ordinance has made it obligatory (binding) for every banking company incorporated in Pakistan to create a reserve fund.
3. Profit.
The main purpose of setting aside part of profit is to meet unforeseen expenses of the bank. The Banking Companies Ordinance has made it obligatory (binding) for every banking company incorporated in Pakistan to create a reserve fund.
3. Profit.
Profit is another source to a bank for the purpose of business.
Profits signify the credit balance of the profit and loss account which has not
been distributed. The accumulated profits over the years increase the working
capital of the bank and strengthens its financial position.
(B) Borrowed Funds.
The borrowed capital is a major and an important source of fund for any banking business. It mainly comes from deposits which are accepted on varying terms in different accounts.
Bank’s borrowing is mostly in the form of deposits. Bank collects three kinds of deposits from its customers (1) current or demand deposits (2) saving deposits and (3) fixed or time deposits. The larger the deposits of bank, the larger will be its (use) fund for employment and so higher are its profit.
1. Borrowing from central bank.
The commercial banks in times of emergency borrow loans from the central
bank of the country. The central bank extends help as and when financial help
is required by the commercial banks.
2. Other sources.
2. Other sources.
Bank also raise funds by issuing bonds, debentures, cash certificates
etc. etc. Though it is not common but is a dependable source of borrowing.
a. Bonds
In
finance, a bond is a debt security, in which the authorized
issuer owes the holders a debt and, depending on the terms of the bond, is
obliged to pay interest (the coupon) to use and/or to repay the principal at a
later date, termed maturity. A bond is a formal contract to repay borrowed
money with interest at fixed intervals
b. Debenture
A type of debt
instrument that is not secured by physical asset or collateral. Debentures
are backed only by the general creditworthiness and reputation
of the issuer. Both corporations and governments frequently issue this
type of bond in order to secure capital. Like other types of bonds,
debentures are documented in an indenture.
c. Cash
certificates
Cash certificates and
recurring deposits are similar types of banking investments. The terms are used
most often in relation to the services that Indian banks provide their
customers. These deposits are not directly related to stock market or bond
speculation, but instead give investors a way to earn interest on money in a
safer setting.
3. Deposits. Public deposits are a powerful source of
funds to a bank. There are’ three types of bank deposits (i) current deposits
(ii) saving deposits and (iii) time deposits. Due to the spread of literacy,
banking habits and growth in the volume of business operations, there is a
marked increase in deposit money with banks.
i. Current
Deposit:
In
deposit terminology, the term Current Deposit refers to a deposit to a bank
account or financial institution without a specified maturity date. These types
of Current Deposit account generally only earn demand deposit interest.
Interest is very low for current account.
ii.
Saving deposits:
A deposit
account held at a bank or other financial institution that provides
principal security and a modest interest rate. Depending on the specific type
of savings account, the account holder may not be able to write checks from the
account (without incurring extra fees or expenses) and the account is likely to
have a limited number of free transfers/transactions. Savings account funds are
considered one of the most liquid investments outside of demand accounts and
cash. In contrast to savings accounts, checking accounts allow you to write
checks and use electronic debit to access your funds inside the account.
Savings accounts are generally for money that you don't intend to use for daily
expenses
iii. Time Deposit:
A time deposit also known as a term
deposit, is a money deposit at a banking institution that cannot be
withdrawn for a certain "term" or period of time (unless a penalty is
paid). When the term is over it can be withdrawn or it can be held for another
term. Generally speaking, the longer the term the better the yield on the
money. A certificate of deposit is a time-deposit product
Factors determine
the cost of sourcing of bank funds :
1). Cost
of funds:
Cost of funds are the expenses incurred on
obtaining funds from various sources in the form of share capital, reserves,
deposits, and borrowings.
Thus, it generally
refers to interest expenses .
Lower the cost of funds,
higher the profitability.
2) Cost
Interest Rate Risk:
The risk of loss due to a change in interest
rates. Interest rate risk is important
to transactions like interest rate swaps. In such a transaction,
the party receiving the floating rate will receive a smaller amount
should the floating rate decrease. Interest rate risk is also important
to bonds; if interest rates rise,
the prices of bonds fall. This affects the secondary
market for bonds; for example, if one purchases a bond with a 3% interest
rate and the prevailing rate rises to 5%, it becomes difficult or impossible to
resell the bond at a profit. Finally, interest rate risk is important also
a factor which influenced the cost of sourcing of bank funds.
2) . Yield
on funds;
The funds raised by the bank through various
sources are deployed in various assets.
These assets yield
income in the form of interest.
So, higher the interest,
greater the profitability and if yield of fund is good then cost of fund will
low.
3). Spread:
Spread is
defined as the difference between the interest received (interest income ) and
the interest paid (interest expense ) in funding.
Higher spread indicates
more efficient financial intermediation and higher net income so if the
interest income is more then cost of capital will low and banks always sources
fund for gaing certain profit.
Thus, higher spread
leads to higher profitability and decrease the cost of funding.
4) Level
of technology:
Use of upgraded technology
normally leads to decline in the operating costs of banks and it also affects
the cost of funding. This improves the profitability of banks.
5) Nature
of Deposits:
Deposits trade with the banks
are of various types like time deposits, demand deposits, short – term
deposits, etc. larger demand deposits /short – term deposits also influenced
the cost of funding
Cost of funding is
always been calculated by banks by keeping all above elements in mind because
all these elements affects the cost of funding by bank directly or indirectly.
Analysis of cost in
source of bank funds:
Cost arises in each
and every source of banks funding but in some it is high and some it
is less as per our analysis CRR and SLR also influenced on the cost of bank
funding if they borrow money from the central bank then they have to repos on
borrowing and cost of funding is high the minimum cost of funding is very low
if bank uses their owns fund (Paid up capital, Reserve fund, Portion of
undistributed profit) but it is not possible for the bank to use always their
owns fund they have to borrow fund from the external parties So as per our
analysis Public deposits are a powerful source of funds to a bank where cos of
funding is nominal .
Sources of Banks fund
where Cost is minimum-
The primary source of funding of banks accepting deposits by the public’s
is the best source of funding and it also have very low cost in comparison to
all other sources so:-
Current Deposit
Saving Deposits
Recurring Deposits
To justify that let we
analyzed some of the key factors through which it is cleared that accepting
public deposits having a minimum cost in source of banks funding
Ø Expenses incurred
on obtaining funds from accepting a deposits, generally low. Lower the cost of
funds, higher the profitability.
Ø The funds raised
by the bank through deposits are deployed in various assets. These assets yield
income in the form of interest. So, higher the interest, greater the
profitability and then cost of fund will low.
Ø Bank allows very
low rate of interest on deposits and charged high rate of interest on lending
so spread is also higher. Higher spread indicates more efficient financial
intermediation and higher net income so if the interest income is more than
cost of capital will low and banks always sources fund for gaining certain
profit. It results in decreasing the cost of funding.
Ø Deposits trade
with the banks are of various types like time deposits, demand deposits, short
– term deposits, etc. larger demand deposits /short – term deposits also
influenced the cost of funding. Means as per the types of deposit cost may be
differ.
Ø Interest rate risk is important at the time of sourcing of
bank funding. The risk of loss due to a change
in interest rates. Interest rate risk is important
to transactions like interest rate swaps. In such a transaction,
the party receiving the floating rate will receive a smaller amount should the floating rate decrease. So risk
involvement cost is also a major concern of thinking for banks at the time of
funding.
If we analyze others
sources of funding then they are more risk full and risk involvement is also
high and bank have to pay high rate of interest for funding so as per our
analysis the primary source of funding accepting public deposits is the good
source of banks funding and it also involved very less operating and risk
involvement cost.
Current rate of interest giving by the bank on
deposits:
Saving Account-
The interest rate of savings
bank account in India varies between 2.5% and 4%. In Savings Bank account, bank
follows the simple interest method. The rate of interest may change from
time to time according to the rules of Reserve Bank of India. One can
withdraw his/her money by submitting a cheque in the bank and details of the
account, i.e the Money deposited, withdrawn along with the dates and the
balance, is recorded in a passbook.
Fixed Deposit-
The rate
of interest for Bank Fixed Deposits varies between 4 and 11 per cent, depending
on the maturity period (duration) of the FD and the amount invested. Interest
rate also varies between each bank. A Bank FD does not provide regular interest
income, but a lump-sum amount on its maturity. Some banks have facility to pay
interest every quarter or every month, but the interest paid may be at a
discounted rate in case of monthly interest. The Interest payable on
Fixed Deposit can also be transferred to Savings Bank or Current Account of the
customer. The deposit period can vary from 15, 30 or 45 days to 3, 6 months, 1
year, 1.5 years to 10 years.
|
Duration
|
*Interest rate (%) per annum
|
|
15 - 45 days
|
4 - 5 %
|
|
30 - 45 days
|
4.25 - 5 %
|
|
46 - 90 days
|
4.75 - 6 %
|
|
91 - 110 days
|
6 - 7.50 %
|
|
181 - 270 days
|
7.5 - 8.25 %
|
|
1 - 2 years
|
8.25 - 9.25 %
|
|
2 - 10 years
|
8.75 %
|
|
1111 Days
|
9.25 %
|
Recurring Deposits-
The rate of interest varies between 7 and 11 percent
depending on the maturity period and amount invested. The interest is calculated
quarterly or as specified by the bank.
|
Amount
invested per month
|
Maturity
amount in 2 years (5%interest)
|
|
Rs
100
|
Rs
2626
|
|
Rs
500
|
Rs
13,132
|
|
Rs
750
|
Rs
19,698
|
|
Rs
3000
|
Rs
78,792
|
