1.1. Bank’s Short-Term Funding
The banks mainly fulfill their needs for short-term funding through two sources, i.e. the retail market and the wholesale market.
1.1.1. Retail Deposits
a. The banks obtain the retail deposits through the deposits made by the individual and commercial depositors.
b. There are basically three types of retail deposits, i.e. the demand deposit (i.e. the minimum balance required to be held in the account), the savings of the individuals deposited in their accounts, and money market savings.
1.1.2. Short-Term Wholesale Funds
There are three different ways of obtaining short-term wholesale funds, i.e.:
a. Central Bank Funds: In every country, there is a central bank. Every commercial bank is supposed to deposit a certain percentage of its total funds with the central banks. This reserve ratio generally ranges between 5-10%. At any given time the commercial and other banks may have more or less than the needed cash. When they have more cash, they can lend to the central banks, and when they have less they can borrow from the central bank, from out of these reserves.
b. Interbank Money Market: This is the market where two or more banks are ready to lend or borrow money from each other.
i. The money can be lent/borrowed as overnight funds (with one-day maturity) or as term funds (with a maturity of over one day).
ii. The target interbank rate at which the borrowing/lending takes place is influenced by the central bank. The central bank generally sets the upper band and the lower band. The upper band is 25 bps above the target rate; it is the rate at which the central bank is ready to lend to the commercial banks. And, the lower band is 25 bps below the target rate; it is the rate at which the central bank is ready to borrow from the commercial banks.
c. Certificate of Deposits: The certificates of deposits or CDs are issued at two levels, i.e. the retail level and the institutional level.
i. At the retail level, the CDs are generally non-negotiable and non-transferable instruments issued for a fixed maturity period.
ii. At the institutional level, the CDs are negotiable and they form a significant portion of short-term funds.