How can banks make money? That’s a good question and one that many people ask every day. The truth is that they make money by lending it to you. It seems odd but that is how it works.
How do banks make money? If you’ve ever asked yourself that question, the answer lies in this simple idea: The banks make money by collecting fees on your deposits. They receive it from you, of course. When you put money in your bank account, whether you take a direct deposit or a check, you get paid back some interest on it.
The difference between the interest that your bank gets from direct deposits and the interest they pay you on your savings account is called the annual percentage rate (APR). Most banks base this rate on a number they wish to charge on deposits. If you have a savings account with a high interest savings account, banks may choose to charge you a higher annual percentage yield. On the other hand, if you have a high interest saving account at a bank that offers no interest on deposits, your bank may base its rate on the prime rate. It’s important to know this because when the banks base their APRs on the prime rate, it means they are using a base rate which is based on an incredibly volatile economy.
This is what makes banks make money by charging you interest. Banks make money in many different ways, but their biggest profit center lies in their ability to charge interest. Let’s look at some other ways in which financial institutions make money. Here are some of the ways that banks make money:
Banks receive deposits from customers in return for their financial assets such as credit cards, checks, certificates of deposits and money market accounts. Most banks base their interest rates on the amount of assets that they have and charge their customers a higher interest rate when their assets become more valuable. However, banks cannot increase the amount of assets they have without also increasing the amount of interest they charge their clients. This means that they have two ways to make money: by charging interest or by making their deposits higher.
Investment banks make money by taking customer deposits and investing them in securities. Investments are made according to a customer’s risk tolerance. If a bank takes a certain risk and loses that amount; they make money. However, if the investment banks to make investments that won’t earn that much and their returns are lower than their costs; they make money by passing the cost on to their customers in the form of higher interest rates. These financial institutions also have two other ways to make money: by lending their financial services and by receiving remuneration for services rendered.