How Banks Operate

Banks are in business to make money. It is hard to manage without a bank, and it is hard for them to manage without us. On the face of it, this looks like a joint venture. However, since all alliances are based on absolute trust and hate turbulent situations, and because these two features seem to be coming into play, it is not surprising that this is causing a certain amount of concern to depositors.

Basically, a client places money into his account. The bank will lend that money to other clients and make a profit on the deal. If the client banked say $10000, the bank can lend $90000 out because they must maintain a 10 per cent cash reserve ratio. In other countries, the cash reserve ratio requirement can be higher or lower. Any country can decide to alter the cash reserve ratio if needs be.

There is nothing to stop a bank to set aside more than the required minimum, meaning having excess reserves. It is not particularly rewarding for banks to do this, since they get no interest on that money, albeit they can channel it out on short and overnight terms to banks which need to maintain their minimum reserve ratio.

Getting back to that $90000 the bank can lend out, and let us say grant overdrafts but creating of course a liability factor, as the bank has to pay out whenever the various borrowers issue their cheques.

The position of the bank is that it has a total cash sum of $10000 received.
However, it has lent out deposits of totalling $90000. Add this together and you get a figure of $100000 representing total assets which are the $90000 in overdrafts plus the original $10000 cash received, which of course includes the required 10% reserve.

What took place is that the bank granted loans worth $90000 giving birth to money which did not exist before, based on the $10000 received in cash and locked in the safe. People do not put in all the money on the same day, and they do not take out all the money on the same day. Cash in form of bank reserves is there to meet some withdrawals that may possibly be required. Banks have been managing quite well with small cash reserves in their safe, because they hold a number of liquid assets which they can sell for instant money. It is better for them to earn more money out of these liquid assets than having cash. Bankers are clever enough to know what kind of mixture of investments they should hold not to be caught with their pants down.

As well as lending money both short and long term, banks place investments in other areas. For instance, apart from the liquid assets, they can purchase long term government bonds and other securities. However, without cash reserves it is not possible to give birth to additional money unless breaking the rules. Of course banking is far more intricate than that, but at least one can grasp some basics, and understand why, when a spanner is thrown into the works due to whatever reason, hiccups can follow.

When starting your business a vital concern is the business account you choose, there are many factors to consider such as the costs involved in transactions and borrowing, the facilities that your bank provides and the relationship you will be able to foster with your account manager. All of these factors will affect your business in a variety of ways, after all the security and efficiency of your finances is an essential element of success.

Firstly you must set up an account if your business is to be run as a limited company. This is mainly so transparency of your finances is apparent and detailed reports on the account can be produced. However, if your business is to be run as a partnership or you are operating as a sole trader; your personal account can be used. This however is rarely advisable as it is useful to make a distinction between the different types of account you may possess.

It is not always necessary to open your business account with the same bank that look after your personal finances. Although you may have already built up a good relationship with the bank that control your personal account, giving control of all your finances to one bank can be a mistake. Added to this, if you do choose a business account purely because you already have an account with that bank, you may miss better offers that are available to you from other banks.

When opening an account for your business, make sure to study all the options in detail. With so many offers in a saturated marketplace, choice is currently amazing. Ensure you compare the costs and charges that are associated with the accounting package. There is a wealth of packages available and through in depth consideration it is possible to find the account that will cater for your business needs perfectly.

It is really worth only looking at banks that have a strong heritage and background. While smaller banks may offer deals that are enticing, the security of your finances should be your primary concern. Look for names you know in the financial world, it is even worth using online banks, just make sure that the institution that owns them are a known and trusted industry player.

Bank charges should be of prime importance when opening a business account. How much it will cost to operate your finances is a worthy consideration, if you perform a lot of transactions these costs can be astronomical, so get a good idea of how you will use your account in order to find the best deals in terms of charges. Many banks will offer free charges for an interim period, this however will not last and so making sure that the charges that begin after this initial period are preferential for your business.

Online banking is increasingly becoming an important part of account packages, as they allow access twenty four hours a day they are extremely useful for those who operate under a hectic schedule. They can save time and energy by removing the need to phone bank representatives and spend hours on hold. The benefits may seem fractional but your business will see results by employing online banking solutions.

Interest rates with business account packages vary immensely from one bank to the other, but before opting for the account with the highest interest rate, remember that there is usually a trade off between interest rates and banking charges. Considering the benefits of interest in relation to bank charges is vital for achieving efficient finances.

Most major banks will have some form of small business team that will be able to assist and advise on commercial matters. Having a dedicated team behind you will help your business in a number of ways and in theory increase the chances of success, as most businesses fail in their first few years it is essential to get as much help as possible during the start up phase.