How Do the Banks Make Money?
imagine a bank is like a giant piggy bank that helps people save and borrow money. Here's a simple way to understand how a bank makes money:
Step 1: People Deposit Money
Deposits: Imagine lots of people put their money into the bank for safekeeping. This money is called "deposits."
Interest: The bank promises to give these people a little extra money, called "interest," as a thank you for keeping their money in the bank. For example, if you put $100 in the bank, the bank might give you $1 as interest at the end of the year.
Step 2: The Bank Lends Money
Loans: The bank doesn't just keep the money sitting there. Instead, it lends out a lot of this money to other people who need to borrow it. These people might want to buy a house (this is called a mortgage), start a business, or pay for school.
Higher Interest: When the bank lends this money, it charges the borrowers a higher interest rate than what it pays to the depositors. For example, if someone borrows $100, they might have to pay back $110. That extra $10 is the interest the borrower pays.
Step 3: The Bank Makes Money
Difference in Interest: The bank makes money from the difference between the interest it pays to depositors and the interest it charges borrowers. If the bank pays you $1 on your $100 deposit but charges someone else $10 to borrow $100, the bank earns the $9 difference.
Fees and Services: Banks also make money by charging fees for different services, like account maintenance fees, ATM fees, or fees for helping people manage their money.
Example to Illustrate
You: You put $100 in the bank.
Interest to You: The bank promises to give you $1 in interest after one year.
Borrower: Someone else borrows $100 from the bank.
Interest from Borrower: The borrower agrees to pay the bank $110 after one year.
Bank's Earnings: The bank pays you $1 but gets $10 from the borrower. So, the bank earns $9.
By borrowing money from people and then lending it out to others, banks help people save, invest, and manage their money while making money for themselves.
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Good father for teaching this topic to your children! And they asked some good questions. I think they will do well.
Thanks! 😀