You probably don’t think much about your bank—it’s where you go to get cash from an ATM, or you may write monthly checks from an account you have there, or it might be the place where you go to get a mortgage or a credit card.
While banks mostly operate invisibly in the background, the economy couldn’t function without a sound banking system. They provide the money that allows consumers to conduct their daily lives, and that greases the wheels of industry.
The nearly 6,000 banks in the U.S. hold deposits worth about $12 trillion. That’s a staggering amount of money if you think about it. And it might surprise you to learn that just five financial institutions hold the deposits of nearly half the nation’s consumers.
These banks are JPMorgan Chase, Wells Fargo, Bank of America, Citigroup, and US Bancorp, in descending order.
While the banking sector is critical to consumers, it also provides a vital lifeline to businesses that depend on them to make deposits, or for loans and lines of credit. In fact, banks loaned small businesses more than $200 million, according to federal lending data.
How do banks earn money?
Banks earn money in a variety of ways. You may not know it, but when banks take your money as a deposit, they also lend it out to others and make money from the interest they charge on the loan.
That interest can be for loans such as mortgages and credit cards. But banks can also charge fees on checking and savings accounts, such as overdraft or under limit charges.
Banks that issue credit cards also collect a portion of interchange, which is a fee charged to merchants for accepting cards for payment.
And many of the largest banks, known as Wall Street banks, have prominent investment divisions, which charge for stock and bond trading, as well as for their services involved in bringing companies public, through a process called an initial public offering (IPO).
An improving picture
After years of difficulties stemming from their involvement with the mortgage crisis, banks appear to be on sound footing again, according to some financial analysts.
In late June of 2017, all of the major U.S. banks passed something called a stress test. This test was put in place at the height of the recession, when numerous financial institutions ran out of money or became insolvent, to make sure banks would have enough cash on hand to weather another financial crisis.
Regulations that protect consumers from abusive lending practices and that prevent banks from getting “too big to fail,” put in place through something called the Dodd-Frank Wall Street Reform and Consumer Protection Law of 2010, may also soon be repealed. Rolling back these regulations, some financial analysts say, could increase bank profits as banks have fewer operational restrictions.
However, doing away with regulations that have made banks more solvent since the crisis could create new risks, as banks may be tempted to engage in behavior that might be bad for consumers. And some banks have continued to engage in deceptive practices around mortgages and banking in general.
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Role of the central bank
There’s another component to the financial sector in the U.S. that’s important to know about.
It’s called the Federal Reserve System.
The Federal Reserve is the central bank of the U.S. It comprises 12 district banks located throughout the country, which together are responsible for the monetary policy of the U.S.
The Fed’s mission is to oversee the health of the nation’s financial system. It attempts to keep the economy strong and growing by enacting policies to maintain low inflation and healthy employment levels. It does this primarily by adjusting interest rate and lending money to the nation’s banks.
The Fed played an active role in rescuing the U.S. economy during the financial crisis of 2008. It did this–through a process that came to be known as quantitative easing–by lowering interest rates, purchasing government bonds, and pumping money into the banking system.
As the financial crisis spread around the world, other nations responded by using models similar to the one the Fed put in place.
The future of banking
While commercial banks and the Federal Reserve make up the traditional banking sector, new technology is shaking up the banking industry. And new financial services companies (such as Stash), known as FinTech companies, are disrupting the market.
Today, there are hundreds of such companies changing the way we bank, spend, lend money, accept payments, finance our businesses, apply for mortgages, and more.
Perhaps the oldest and best-known is Paypal. You may not know it, but in the early days of the Internet, allowing people to pay for things online in a secure manner was a challenge. Paypal created a secure system that let people use either a credit card or a bank account to pay and accept payments for things online.
Paypal is a multibillion-dollar company. Now it too is facing disruption by a host of startups including Stripe, Apple Pay, Dwolla, and Square.
In short, the financial services industry is moving beyond handing hand-written checks to your local bank teller. Banking is becoming global and mobile, giving more people the ability to access their money from wherever they are in the world.