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Souces and Uses of funds in Commercial Banks - Coggle Diagram
Souces and Uses of funds in Commercial Banks
Souces of funds
Borrowed Funds
Interbank funds purchased (borrowed)
Loans between banks to meet short-term liquidity needs.
Maturity: Usually 1–7 days
Interbank rate, varies with demand, supply, and credit risk
Borrowing bank (needs liquidity) and lending bank (has excess reserves).
Borrowing from the Central Bank
Short-term loans provided by the Central Bank to commercial banks.
Maturity: 1 day to a few weeks
Primary credit lending rate
Commercial banks borrow temporary reserve shortages from CB.
Repurchase Agreement
Sale of securities with an agreement to repurchase them later at a specified price, very short-term funding.
Maturity: Typically a few days.
Repo rate, usually lower than the interbank rate.
Borrower – bank; Lenders/Investors – households, insurance companies, and pension funds.
Bonds issued by the bank
Maturity: Long-term (often 20 years or more)
Fixed or variable coupon rate (based on market conditions)
Long-term debt instruments issued by banks to finance fixed assets (land, buildings, or equipment)
Borrower – bank; Lenders/Investors – households, insurance companies, and pension funds.
Deposit accounts
Savings deposits (passbook savings)
No check writing
Moderate liquidity
Small interest; often no minimum
Time deposit (Certificates of Deposit)
Retail CD
Fixed term & minimum deposit
No secondary market (retail)
Can not withdraw, If early withdrawal → penalty (loss of interest)
Negotiable CD (NCD)
Larger, tradable in secondary market
Typically short-term, more liquid than retail CD
Transaction deposits (demand/deposit checking)
For payments: checks, transfers
Very liquid (withdraw anytime)
Low/no interest; small minimum balance
Bank Capital (Equity)
Sources: stock issuance + retained earnings
No obligation to repay like debt
Absorbs losses → protects depositors & stability
Regulated: Capital Adequacy Ratio (CAR), minimum legal capital
Uses of funds
Investment in Securities
Types of Securities
Treasury and Agency Securities
Corporate and Municipal Bonds
Subject to credit risk but offer a higher return
Mortgage-backed securities (MBS)
Represent packages of mortgages
Other Uses
Interbank funds sold (loaned out)
Banks (often small banks) lend funds to other banks in the interbank market
Repurchase Agreement (Repo)
The bank acts as the lender by purchasing securities and agreeing to sell them back later.
Fixed Assets
Banks must maintain office buildings and land to conduct their business operations
Cash
Held to meet reserve requirements, ensure liquidity, handle withdrawals.
Since cash earns no income, banks keep only the minimum necessary.
They can access temporary funds from various sources, so excess reserves are avoided.
Cash is held in bank vaults and at the Central Bank.
Bank loans
Consumer loans
Installment loans
Provided to finance purchases of cars and household products
Credit cards
Enable consumers to purchase various goods
Business Loans
Working Capital Loans: Short-term loans for ongoing operations.
Term Loans: Used to buy fixed assets (e.g., machinery)
Direct Lease Loans: Bank buys the asset and leases it to the firm.
Informal Line of Credit: Allows borrowing up to a set limit for a certain period.
Revolving Credit Loan: Bank commits to lend up to a limit for a period (usually < 5 years).
Loan Participations
For large loans beyond one bank’s capacity, multiple banks share the loan.
A lead bank manages documentation, disbursement, and payments.
Leveraged Buyout (LBO) Loans
Used when a business or management team buys another firm mostly using debt.
Firms seek LBO financing if they believe a target company’s shares are undervalued.
Real Estate Loans
Commercial Real Estate Loans: For building projects (e.g., shopping malls)
Residential Loans: Term: 15–30 years (sometimes shorter with balloon payment), backed by the purchased house