What is the Difference Between Banks and Non-Bank Financial Intermediaries

As dist net from the commercial and cooperative banks, No 1 Bank Financial Intermediaries (NBFIs) is a heterogeneous category of financial institutions.

It covers a very wide field of institutions ranging from such highly specialised ones as development banks like IDBI and ICICI to very simple organisations like mutual saving societies.

In India, there are organised and unorganised types of NBFIs. The organised sector includes:

(i) Development Banks industrial as well as agricultural at all-India and State levels (e.g. IDBI, ICICI, SIDCs, ARDC, land development banks etc.),

(ii) Finance Corporations (e.g. RFFC, FFC, etc.) and

(iii) specialised institutions like Life Insurance Corporation, Unit Trust of India, General Insurance companies etc.

Among unorganised sector there are loan companies, hire-purchase finance companies, chit funds, nidhis etc.

In India NBFIs have recently made an impressive progress in filling important gaps in the country’s financial structure and in promoting industrial and agricultural development of the economy.

Banks and NBFIs both are, thus, very important constituents of the financial system of a country.

However, the essential differences between banks and NBFIs can be stated as under:

1. In economic literature, NBFIs is a generic term and refers to financial institutions “whose liabilities are not accepted as a means of payment (or money) in the settlement of debt.”

While a bank is a financial institution whose liabilities (bank deposits) are widely accepted as a means of payment (or money) in settlement of debt.

2. Banks form a homogeneous group doing banking business. NBFIs form a heterogeneous group in the financial structure of the economy.

3. Usually, banks are confined to only short-term loans in the money market. NBFIs are spread over the entire range of financial markets supplying short, medium and long-term credit.

4. Commercial banks generate multiple expansion of credit. NBFIs only mobilise savings for investment.

5. Commercial banks’ credit creation is determined by the availability of excess reserves and the cash reserve ratio. Rate of interest has little significance in this matter. On the other hand, NBFIs’ operations and saving mobilisation processes are largely governed by the structure of the rate of interest.

6. Commercial banks can raise funds rather costlessly as no interest is payable on demand deposits. NBFIs have to pay higher and higher interest to attract more funds.

7. People deposit money with banks for safety, convenience and liquidity considerations. They invest their savings with NBFIs with economic motive of earning extra incomes.

8. In the process of credit creation banks involve relatively a lesser time, for banks are basically interested in payment turnover. On the other hand, lending operations of the NBFIs involve relatively a longer time period, since they are based on income turnover.

9. Activities of banks and NBFIs can cause destabilisation impact when there are changes in the structure of portfolios held by the NBFIs or when financial claims on the NBFIs are increasing at the cost of banks’ demand deposits. ⁷

In fine, both banks and NBFIs play a significant role in the progress of the economy by influencing saving and investment.

However, as the Banking Commission puts “the place of NBFIs in economy really depends on whether as a class they are performing some functions which cannot be performed by banks efficiently.”