Credit creation theory and financial intermediation theory: different insights on banks’ operations

Abstract

Purpose – already for more than one hundred years there is an ongoing discussion about the role and function of banks, which subsequently has affected banking regulation. Three theories of banking were dominant in different periods of the 20th century: Credit creation theory (the oldest), Fractional reserve theory, Financial intermediation theory. Authors are contributing to the theoretical discussion with research showing that Credit creation theory and Financial intermediation theory reflect different insights on banks’ operations. Research methodology – literature review (regarding theories), financial ratio calculations (Loans-to-Deposits ratio); Findings – using Loans-to-Deposits ratio calculations for several banks researchers have found that banks’ lending process can be explained by Credit creation theory however banks’ Strategic Asset-Lability Management can be explained by Financial intermediation theory. Research limitations – (a) only domestic banks were selected as in this research it is important to get the needed relationship between deposits and lending. Subsidiaries of foreign banks could have not balanced balance sheet from Loansto-Deposits ratio perspective as their funding could come from abroad if the business model in Baltics is primarily lending oriented, (b) Baltic market was taken because of know-how of researchers about banks operations here and history of their transformation, (c) audited financial reports were used as they gave a sufficient picture of banks Loansto-Deposits ratio. Practical implications – theoretical discussion in this paper enlightens the role and function of the banks thereby improving understanding of better banking regulation. Authors propose to adjust the current banking regulatory framework which is focused on capital requirements. Originality/Value – current research provides some link between existing banking theories (Credit creation theory and Financial intermediation theory) shaping a new hybrid concept and proposing an adjusted regulatory framework based on this hybrid concept

Fintech, Bigtech Credit and Economic Growth: A Bibliometric Review and Meta Analysis

“…When savers deposit money and it is lent out, it in most cases is deposited into banks again by the borrowers through expenditure (more borrowing leads to more expenditure). Banks create credit (Freimanis & Šenfelde, 2019). Reserve requirement is money that should be left in the bank when deposited by a saver that should not be lent.…”

“…It is the dominant theory of banking with liquidity, risk and information as the three main intermediation functions (Freimanis & Šenfelde, 2019). Fintech credit is credit activity facilitated by electronic (online) platforms.…”

Fintech and its challenge for banking sector

“…Furthermore, intermediation theory explained the role of banks as liduidity intermediation, risk intermediation, and information intermediation (Servigny & Renault, 2004). Information intermediation is basically intermediary function to reduce the assymetric information (Freimanis & Senfelde, 2019;Mitchell, 2005;(Rodrigues & Galdi, 2017).…”