Introduction

Banks play a crucial role in mediating between individuals or entities with surplus money and those who need money. They act as intermediaries, collecting funds from individuals and entities with excess money and channeling them towards borrowers who require funds for various purposes. This process is commonly known as financial intermediation.

How Banks Mediate Between Surplus Money Holders and Borrowers

1. Deposits and Savings Accounts
- Banks offer various types of deposit accounts, such as savings accounts, current accounts, and fixed deposit accounts, to individuals and entities with surplus money.
- Surplus money holders deposit their funds in these accounts, allowing banks to pool and mobilize the funds.

2. Loan Origination
- Banks assess the creditworthiness of potential borrowers through a rigorous evaluation process. This involves analyzing their financial history, income, assets, and liabilities.
- If the borrowers meet the bank's criteria, the bank will originate a loan, specifying the terms and conditions, including interest rates, repayment period, and collateral requirements.

3. Liquidity Management
- Banks carefully manage their liquidity to ensure they have sufficient funds to meet both deposit withdrawals and loan disbursements.
- They employ techniques such as reserve requirements, interbank borrowing, and lending, and managing their investment portfolios to maintain an optimal balance between liquidity and profitability.

4. Risk Management
- Banks mitigate the risk associated with lending by diversifying their loan portfolios across various sectors and borrowers.
- They also employ risk management techniques, including credit scoring models, collateral requirements, loan covenants, and loan loss provisions.

5. Interest Rate Determination
- Banks determine the interest rates they offer on deposits and charge on loans based on various factors, such as the prevailing market rates, monetary policy, risk assessment, and competition.
- The interest rate spread, the difference between the deposit and lending rates, is a key source of profitability for banks.

6. Financial Intermediation
- Banks facilitate the transfer of funds between surplus money holders and borrowers by using the pooled deposits to provide loans.
- When a borrower takes a loan, the bank disburses the funds from the deposits, creating new money in the form of credit.

Conclusion
Banks act as intermediaries, mediating between surplus money holders and borrowers by collecting deposits and providing loans. They manage liquidity, assess risk, determine interest rates, and facilitate the transfer of funds. This process of financial intermediation is vital for the functioning of the economy, as it allows individuals and entities to access funds for various purposes while providing a safe place to save and invest their surplus money.