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2.4. Bank Lending to Cover Investment Needs of the Economy
Direct bank lending is an important source of obtaining outside financing.
There are two key features of a bank loan:
1. Two-way exchange of liabilities. By making a loan, the bank lends not
its own funds, but the money kept on depositors’ accounts. Thus, attracting more
money from depositors, the bank takes on a commitment to return the funds to
the depositor after an agreed period. The bank then may lend this money to the
borrower on condition that the borrower is obliged to repay the loan on an
agreed date. This exchange of liabilities cannot be found in any other
transaction.
2. Bank loans are productive in nature, which means that the borrowed
money must be used for capital reproduction. Through lending, the bank
foresees that the borrowed money returns with an agreed rate of interest. The
source of this increment is the added value occurring during the production
process.
Loans can be classified based on length and can be short, medium, and
long-term. However, in the literature, there is no unified view of what time is
attributed to each type of bank loans.
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Short-term loans
include a liability falling due in 12 month or less. Short-
term loans are designed primarily to help the borrower serve the working capital
cycle, improve their liquidity position, or solve the current financial issues.
In the developed countries, call loans are gaining their popularity. It is a
short-term loan that may be terminated at any time by either party or is
repayable on demand.
Medium-term loans
usually have a term of one to five or eight years. The
term may vary in different countries, e.g. six years in Germany, eight years in
the USA.
Long-term loans
are regarded as ones not due for repayment within the
next six year or possible more. Both medium and long-term loans can be used
by the borrower as a source of financing their investment needs. In this case, the
term of the loan is rather conventional. When the borrower exploits this
resource, they must consider the payback time of the investment project. If the
payback period is not long, e.g. 12 months (which is unlikely but possible, given
the emergence of new technologies), then a short-term loan can be used for
investment purposes.
Regarding an industry, loans can be grouped into industrial, agricultural,
commercial, interbank loans, and loans to public authorities.
In turn, loans to industrial companies can be divided into investment and
current. Investment loans are granted for the development of an industrial
complex, which requires considerable amounts for quite a long time. In this
case, the lender may be a large commercial bank or a group of banks. These
groups can be formed as a pool of banks or a consortium of banks. Both types
— a pool and a consortium — are in fact a combination of several banks formed
to provide syndicated loans to large borrowers. Current loans are used to cover
temporary financial gaps in the resource cycle of an industrial company.
Agricultural loans
, as a rule, are not large, but have seasonal nature due to
the seasonality of agricultural production.
Loans made to trade firms, intermediary organizations, services providers
etc. constitute a group of trade (commercial) credit. The distinctive feature of
these loans is a quick turnover of the invested capital, high transparency, and
predictability of transactions.
Interbank loans
reflect the flow of capital within the banking system. This
allocation of resources originates in two global factors: (a) bank liquidity may
give rise to concern under a number of circumstances, e.g. overdue repayment of
customer loans; a sudden outflow of other resources from the bank; new urgent
liabilities; (b) uneven geographical distribution of banks and financial resources
across the country.
Loans granted to public authorities are considered as safe investment.
Other important criteria for grouping bank loans are the procedure and
mechanism of securing bank loans with collateral.
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A secured loan
denotes a loan that is backed by an asset, or collateral, and
may have a form of assets (tangible or intangible) or ownership rights of the
borrower (typical for large long-term loans); and guarantees of a third party
(typical for short-term small and medium-sized loans).
An unsecured loan
is not tied to any of borrower’s assets. It is an agreement
between the lending bank and the company that is solvent and has long-standing
business relations with the bank or is an affiliate of the bank.
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