The Role of Commercial Banks in Economic development

Commercial banks are considered not merely as dealers in money but also the leaders in economic development. They are not only the store houses of the country’s wealth but also the reservoirs of resources necessary for economic development.

They play an important role in the economic development of a country. A well-developed banking system is essential for the economic development of a country. The “Industrial Revolution” in Europe in the 19th century would not have been possible without a sound system of commercial banking.

In case of developing countries like India, the commercial banks are considered to be the backbone of the economy. Commercial banks can contribute to a country’s economic development in the following ways :

Accelerating the Rate of Capital Formation

Capital formation is the most important determinant of economic development. The basic problem of a developing economy is slow rate of capital formation. Banks promote capital formation. They encourage the habit of saving among people.

They mobilise idle resources for production purposes. Economic development depends upon the diversion of economic resources from consumption to capital formation. Banks help in this direction by encouraging saving and mobilising them for productive uses.

Provision of Finance and Credit

Commercial banks are a very important source of finance and credit for industry and trade. Credit is a pillar of development. Credit lubricates all commerce and trade.

Banks become the nerve centre of all commerce and trade. Banks are instruments for developing internal as well as external trade.

Monetisation of Economy

An underdeveloped economy is characterised by the existence of a large non-monetised sector. The existence of this non-monetised sector is a hindrance in the economic development of the country.

The banks, by opening branches in rural and backward areas can promote the process of monetisation (conversion of debt into money) in the economy.


Innovations are an essential prerequisite for economic development. These innovations are mostly financed by bank credit in the developed countries.

But in underdeveloped countries, entrepreneurs hesitate to invest in new ventures and undertake innovations largely due to lack of funds.

Facilities of bank loans enable the entrepreneurs to step up their investment on innovational activities, adopt new methods of production and increase productive capacity of the economy.

Implementation of Monetary Policy

Economic development need an appropriate monetary policy. But a well-developed banking is a necessary pre-condition for the effective implementation of the monetary policy.

Control and regulation of credit by the monetary authority is not possible without the active co-operation of the banking system in the country.

Encouragement to Right Type of Industries

Banks generally provide financial resources to the right type of industries to secure the necessary material, machines and other inputs. In this way they influence the nature and volume of industrial production.

Development of Agriculture

Underdeveloped economies are primarily agricultural economies. Majority of the population in these economies live in rural areas.

Therefore, economic development in these economies requires the development of agriculture and small scale industries in rural areas.

So far banks in underdeveloped countries have been paying more attention to trade and commerce and have almost neglected agriculture and industry. Banks must provide loans to agriculture for development and modernisation of agriculture.

In recent years, the State Bank of India and other commercial banks are granting short term, medium-term and long term loans to agriculture and small-scale industries.

Regional Development

Banks can also play an important role in achieving balanced development in different regions of the country. They transfer surplus capital from the developed regions to the less developed regions, where it is scarce and most needed.

This reallocation of funds between regions will promote economic development in underdeveloped areas of the country.

Promote Industrial Development

Industrial development needs finance. In some countries, commercial banks encouraged industrial development by granting long-term loans also. Loan or credit is a pillar to development.

In underdeveloped countries like India, commercial banks are granting short-term and medium-term loans to industries. They are also underwriting the issue of shares and debentures by industrial concerns. This helps industrial concerns to secure adequate capital for their establishment, expansion and modernisation.

Commercial banks are also helping manufacturers to secure machinery and equipment from foreign countries under instalment system by guaranteeing deferred payments. Thus, banks promote or encourage industrial development.

Promote Commercial Virtues

The businessmen are more afraid of a banker than a preacher. The businessmen should have certain business qualities like industry, forethought, honesty and punctuality.

These qualities are called “commercial virtues” which are essential for rapid economic progress. The banker is in a better position to promote commercial virtues. Banks are called “public conservators of commercial virtues.”

Fulfillment of Socio-economic Objectives

In recent years, commercial banks, particularly in developing countries, have been called upon to help achieve certain
socio-economic objectives laid down by the state.

For example, nationalised bank in India have framed special innovative schemes of credit to help small agriculturists, self-employed persons and retailers through loans and advances at concessional rates of interest.

Banking is thus used to achieve the national policy objectives of reducing inequalities of income and wealth, removal of poverty and elimination of unemployment in the country.


Thus, banks in a developing country have to play a dynamic role. Economic development places heavy demand on the resources and ingenuity of the banking system. It has to respond to the multifarious economic needs of a developing country. Traditional views and methods may have to be discarded.

“An Institution, such as the banking system, which touches and should touch the lives of millions, has necessarily to be inspired by a larger social purpose and has to sub serve national priorities and objectives.” A well-developed banking system provides a firm and durable foundation for the economic development of the country.