A financial banking system is an organization which provides credit and money to different people and businesses. It could also be the single entity giving loans to other entities or companies. It basically acts as a communication link between all the major players in the financial sector through a uniform payment scheme. The main purpose of a financial banking system would be to provide financial services to its clients. In other words, the entire aim of a financial institution is to extend credit to various persons and organizations.
There are several ways of developing a financial banking system. One way would be through the development of a comprehensive regulatory regime for the financial markets. This regulatory regime should cover all the aspects of the banks. This will ensure that there is uniformity in terms of the amount of liquidity they can extend to their customers and other financial institutions. Another way is through the introduction of liquidity management measures by the banks.
Liquidity refers to the ability of a bank to purchase assets from other banks and other financial institutions. A financial banking system with a well developed liquidity feature allows a bank to extend credit to other financial institutions, companies, and individuals easily. For instance, the New York Stock Exchange (NYSE) has a highly developed liquidity policy. Under this policy, the NYSE can instantly supply financial services to other companies and individuals, on just a simple order. This makes the NYSE a major player in international trade and investment.
Liquidity in the financial markets refers to the ability of financial institutions to accept and repay loans from other financial institutions and individuals. The liquidity in financial markets results from the availability of ready cash assets of various financial institutions. This means that there is always money available in financial markets to meet the demands of financial transactions and activities. However, if you look at the present situation, there are numerous examples of banks that have run out of cash.
In addition, the sudden collapse of financial institutions can also result in sudden run-outs of cash in the financial markets. For instance, the financial institutions in California filed for bankruptcy during the recent economic meltdown. In such cases, it became impossible for banks to continue their normal operations. Although the federal government provided bail-outs for financial institutions, these bail-outs were only meant for a short period of time until financial conditions were restored. However, it was noticed that once financial institutions resume their normal operations, their liquidity will be back.
The importance of liquidity in a banking system cannot be ignored. That is why, a proper and stable liquidity policy is very essential. The goal of every financial institution should be to maintain its maximum level of liquidity. In today’s globalized economy, it is no longer easy to maintain stable cash levels in the financial markets. To overcome such problems, lenders must now look for additional solutions that would help them reduce their dependence on external sources of funds.
Therefore, a major change that must be made in the functioning of banks is that they should focus more on generating revenue from lending rather than seeking to profit through interest. The failure of banks to meet their demands of borrowers would have serious repercussions on the overall economy. This will trigger a vicious cycle that will ultimately lead to financial instability. If the creditors and money managers feel that there is no chance of recovering their investment, they might go for bankruptcy as a solution.
However, if the creditors accept higher losses and agree to accept lower interest income, then the entire capital structure of the economy will be brought down. It is high time that the creditors accept higher returns from loan providers. This way, they will be able to absorb the losses in the long run. The introduction of an independent financial oversight board into the banking sector would prove to be a very wise step.