How banks actually make money
Understanding the bank business model helps you understand why your savings rate is what it is, and why banks fight so hard for your checking account.
Written for plain-English understanding by Joseph Citizen. Why I built this →
Banks make money in three main ways: net interest margin, fees, and trading. Understanding the first one explains a lot about your everyday experience as a customer.
Net interest margin
The bank takes deposits from you (paying you, say, 0.1%), then lends that money out as mortgages, business loans, and credit cards (charging, say, 7%). The 6.9% spread is their core profit. The bigger that spread, the more profitable the bank.
This is why traditional brick-and-mortar banks pay so little interest on savings. Every dollar they pay you cuts into their margin. They keep paying you almost nothing because most customers don't shop around.
Fees
Overdraft fees, ATM fees, account maintenance fees, wire transfer fees, foreign transaction fees. Fees are a major bank revenue source. Avoiding them is one of the easiest financial wins available.
Trading and investment banking
Bigger banks also make money through trading, advisory work, underwriting, and asset management. This is where Goldman Sachs and JP Morgan make most of their profits, while regional banks rely mostly on net interest margin.
Keep the momentum going.
Emergency fund: the unsexy thing that saves you
Cash set aside for surprises is what keeps a job loss or medical bill from becoming a financial catastrophe. Build it before you invest aggressively.
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Important
This lesson is general financial education only. It is not personal investment, tax, accounting, or legal advice. Examples are illustrative. Past performance does not guarantee future results.