Commercial banks are one source of financing for small businesses.
The role of commercial banks in economic development rests chiefly on their role as financial intermediaries. In this capacity, commercial banks help drive the flow of investment capital throughout the marketplace. The chief mechanism of this capital allocation in the economy is through the lending process which helps commercial banks gauge financial risk.
o One of the most significant roles of commercial banks in economic development is as arbiters of risk. This occurs primarily when banks make loans to businesses or individuals. For instance, when individuals apply to borrow money from a bank, the bank examines the borrower's finances, including income, credit score and debt level, among other factors. The outcome of this analysis helps the bank gauge the likelihood of borrower default. By weeding out risky borrowers, commercial banks lessen the risk of financial losses. As a result, loans that mature without any problems generate a larger pool of funds for the bank to lend, further supporting economic development.
o When commercial banks assess risk, they help ensure that loans go to creditworthy borrowers. In turn, borrowers typically use loan proceeds to finance major purchases, such as homes, education and other consumer spending. The effect of commercial bank lending generates economic activity from individuals who now have the necessary funds to finance their own endeavors.
o Commercial banks also finance business lending in a variety of ways. A business owner may solicit a loan to finance the start-up costs of a small business. Once funded, the small business may begin operations and embark on a growth plan. The aggregate effect of small business activity generates a significant portion of employment around the country. According to the... [continues]
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