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What is a bank?

According to , a bank is:

an institution that deals in money and its substitutes and provides other financial services. Banks accept deposits and make loans and derive a profit from the difference in the interest rates paid and charged, respectively.

Banks are critical to our economy. The primary function of banks is to put their account holders' money to use by lending it out to others who can then use it to buy homes, businesses, send kids to college...

When you deposit your money in the bank, your money goes into a big pool of money along with everyone else's, and your account is credited with the amount of your deposit. When you write checks or make withdrawals, that amount is deducted from your account balance. Interest you earn on your balance is also added to your account.

Banks create money in the economy by making loans. The amount of money that banks can lend is directly affected by the reserve requirement set by the Federal Reserve. The reserve requirement is currently 3 percent to 10 percent of a bank's total deposits. This amount can be held either in cash on hand or in the bank's reserve account with the Fed. To see how this affects the economy, think about it like this. When a bank gets a deposit of $100, assuming a reserve requirement of 10 percent, the bank can then lend out $90. That $90 goes back into the economy, purchasing goods or services, and usually ends up deposited in another bank. That bank can then lend out $81 of that $90 deposit, and that $81 goes into the economy to purchase goods or services and ultimately is deposited into another bank that proceeds to lend out a percentage of it.

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In this way, money grows and flows throughout the community in a much greater amount than physically exists. That $100 makes a much larger ripple in the economy than you may realize!

Why does banking work?

Banking is all about trust. We trust that the bank will have our money for us when we go to get it. We trust that it will honor the checks we write to pay our bills. The thing that's hard to grasp is the fact that while people are putting money into the bank every day, the bank is lending that same money and more to other people every day. Banks consistently extend more credit than they have cash. That's a little scary; but if you go to the bank and demand your money, you'll get it. However, if everyone goes to the bank at the same time and demands their money (a run on the bank), there might be problem.

Even though the Federal Reserve Act requires that banks keep a certain percentage of their money in reserve, if everyone came to withdraw their money at the same time, there wouldn't be enough. In the event of a bank failure, your money is protected as long as the bank is insured by the Federal Deposit Insurance Corporation (FDIC). The key to the success of banking, however, still lies in the confidence that consumers have in the bank's ability to grow and protect their money. Because banks rely so heavily on consumer trust, and trust depends on the perception of integrity, the banking industry is highly regulated by the government.

What Is Retail Banking?

Retail banking is the cluster of products and services that banks provide to consumers and small businesses through branches, the Internet, and other channels. As this definition implies, banks organize their retail activities along three complementary dimensions: customers served, products and services offered, and the delivery channels linking customers to products and services. (The box illustrates how several large banks describe their own retail banking activities.) Organizationally, many large banking companies have a distinct “retail banking” business unit with its own management and financial reporting structure. Our description focuses on the common elements across these retail banking business segments. There are, however, differences in the way institutions organize and manage retail activities, so we also discuss the most significant variations. Consumers and small businesses are typically the core

retail banking customers. Consumers are served almost entirely by the retail banking business unit, although some large organizations have a separate subprime consumer finance unit with its own brand identity. At the other end of the spectrum, services used primarily by high-net-worth individuals and households, such as trust and brokerage services, are nearly always provided by business units that specialize in these activities and offer them to all bank customers (for example, retail brokerage services are provided by a larger brokerage or asset management business segment).

In Their Own Words: How Banks Describe Their Retail Banking Activities

These descriptions are from the 2005 annual reports of four large banks. This group certainly does not constitute an exhaustive list of institutions that provide detailed information on their retail banking activities. However, the passages cited here are representative of the information provided by large banking organizations that identify distinct retail business segments in their annual reports.

Bank of America

“Bank of America serves more than 38 million consumer and small business relationships in the nation’s fastest-growing and most diverse communities. Sales, service, and fulfillment are provided through more than 5,800 banking centers and nearly 17,000 ATMs in 29 states and the District of Columbia. We also offer our customers the leading online banking service in the United States, with more active online bill payers than all competing banks combined, as well as a 24-hour telephone banking service that

earns high ratings for speedy and easy self-service. With product and sales teams coordinating closely within these various distribution channels, Bank of America has grown to become the nation’s largest provider of checking and savings services, the No. 1 credit and debit card provider (effective with completion of the MBNA merger on Jan. 1, 2006), the No. 1 small business lender, the leading home equity lender, and the fifth-largest originator of consumer mortgages.”

Citigroup

“Citigroup’s Global Consumer Group provides a wide array of banking, lending, insurance, and investment services through a network of 7,237 branches, 6,920 ATMs, 682 Automated Lending Machines (ALMs), the Internet, telephone and mail, and the Primerica Financial Services sales force. Global Consumer serves more than 200 million customer accounts, providing products and services to meet the financial needs of both individuals and small businesses.”

JPMorgan Chase

“Retail Financial Services helps meet the financial needs of consumers and small businesses. We provide convenient consumer banking through the nation’s second-largest ATM network and fourth-largest branch network. We are the second largest home equity originator, the fourth-largest mortgage originator and servicer, the largest non-captive originator of automobile loans, and a top provider of loans for college students. We serve customers through more than 2,600 bank branches and 280 mortgage offices, and through relationships with 15,600 auto dealerships and 2,500 schools and universities. More than 11,000 branch salespeople assist customers with checking and savings accounts, mortgage and home equity loans, small business loans, investments, and insurance across our 17-state footprint from New York to Arizona. An additional 1,500 mortgage officers

provide home loans throughout the country.”

Wells Fargo and Co.

“The Community Banking Group offers a complete line of banking and diversified financial products and services to consumers and small businesses with annual sales generally up to $20 million in which the owner generally is the financial decision maker. Community Banking also offers investment management and other services to retail customers and high-net-worth individuals, insurance, securities brokerage through affiliates, and venture capital financing. These products and services include the Wells Fargo Advantage FundsSM, a family of mutual funds, as well as personal trust and agency assets. Loan products include lines of credit, equity lines and loans, equipment and transportation (recreational vehicle and marine) loans, education loans, origination and purchase of residential mortgage loans, and servicing of mortgage loans and credit cards. Other credit products and financial services available to small businesses and their owners include receivables and inventory financing, equipment leases, real estate financing, Small Business Administration financing, venture capital financing, cash management, payroll services, retirement plans, Health Savings Accounts, and credit and debit card processing. Consumer and business deposit products include checking accounts, savings deposits, market rate accounts, Individual Retirement Accounts (IRAs), time deposits, and debit cards. Community Banking serves customers through a wide range of channels, which include traditional banking stores, in-store banking centers, business centers, and ATMs. Also, Phone BankSM centers and the National Business Banking Center provide 24-hour telephone service. Online banking services include single sign-on

to online banking, bill pay, and brokerage, as well as online banking for small business.”

Why are there so many different types of banks?

Not all banks are exactly the same. There are commercial banks, savings banks, savings and loan

associations (S&Ls), cooperative banks, and credit unions. Today they offer many of the same

services, but at one time, they were very different from one another.

Commercial banks originally concentrated on meeting the needs of businesses. They served

as places where a business could safely deposit its funds or borrow money when necessary.

Many commercial banks also made loans and offered accounts to individuals, but they put most

of their effort into serving business (commercial) customers.

Savings banks, S&Ls, cooperative banks, and credit unions are classified as thrift institutions

or “thrifts,” rather than banks. Originally, they concentrated on serving people whose

banking needs were ignored or unmet by commercial banks.

The first savings banks were founded in the early 1800s to give blue-collar workers, clerks,

and domestic workers a secure place to save for a “rainy day.” They were started by publicspirited

citizens who wanted to encourage efforts at saving among people who did not earn

much money.

Savings and loan associations and cooperative banks were established during the 1800s

to help factory workers and other wage earners become homeowners. S&Ls accepted savings

deposits and used the money to make loans to home buyers. Most of the loans went to people

who did not make enough money to be welcome at traditional banks.

Credit unions began as a 19th-century solution to the emergency needs of people who

were unable to borrow money from traditional lenders. Before the opening of credit unions,

ordinary citizens had no place to turn when they faced unexpected home repairs, medical

expenses, or other emergencies. Credit unions were started by people who shared a common

bond such as working in the same factory, belonging to the same house of worship, or farming

in the same community. Members pooled their savings and used the money to make small loans

to one another.

Although there are still differences between banks and thrifts, they now offer many of the same

banking services to their customers. Most commercial banks now compete to make car loans.

Many thrift institutions have begun to make commercial loans, and some credit unions make

loans to home buyers.

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