The Functions of a Banker

The original definition of a banker was one who safeguards other peoples' money, but various other services have been absorbed into the bank. In the early twentieth century, the banker had become a dealer of money and credit. In the broadest sense, a banker performs four basic functions:

  1. The issue and redemption of notes. This was once the primary business of banks, but now that there is central banking, most banks merely handle the distribution of notes issued by the central bank.
  2. The receipt and maintenance of deposits. Banks still remain engaged in holding peoples' money and disbursing it per their instructions, whether returning it to them or dispensing it to another party to whom they have written a check.
  3. Granting and collecting loans. The banker lends out the holdings of his depositors to those in need of credit, collects payments, and returns a portion of the interest earned to the depositors for the use of their funds.
  4. Discounting bills and promissory notes. Rather than lending directly, a banker may also buy a right to collect on a loan made by another bank, purchasing a stream of future payments at a discounted rate without assuming the risk of the original loan (which remains with the issuing bank).

The entire banking system is based on assumptions being met and promises being kept. The banker's assumption that his depositors will withdraw funds gradually is what gives him capital to lend or invest, and the promises of creditors to repay the amounts borrowed enables the banker to earn a profit and grant interest to his depositors. If all depositors withdrew their balances immediately or all creditors defaulted on their loans, the bank would immediately collapse.

Banks also depend in large extent in people accepting promises of payment rather than accepting actual specie, as the maintenance of gold in his vaults depends on bank notes remaining in circulation instead of being immediately redeemed. Banking could function if notes were redeemed daily, but it would be far less profitable to do so. It must have money lying idle (in deposit accounts and unredeemed notes) to be able to lend it.

And banks are in a position of absorbing risk: the individual who loans his money directly to a borrower assumes the risk of losing the sum if his borrower does not repay him, but the individual who deposits his money into a bank expects his deposit to be secure and his interest to be certain, even if the borrowers to whom the bank has extended credit do not repay. The banker also bears the risk of having made a promise to return deposits whenever they are demanded while having entered into agreements with borrowers to expect repayment on a fixed schedule.

There is some consideration of a banker's assets:

The essential characteristic of a banker's assets s their ability to be converted into money on demand to satisfy the demands of his own depositors to have their capital returned. Those that are most easily converted tend to afford the least returns.