The Traditional Theory of Banking and Modern Trends in Banking Activities

Abstract

The article examines the theoretical reasons for banks functioning as well as the modern banking in the context of traditional model. The model is reviewed to extend it for explaining more recent bank activities, such as off balance sheet banking and the offering of non bank financial services. In risk management, banks offer more sophisticated forms of services. The overview of diversification of banking activities is followed by considerations about the banks future existence. The banks organization structure is studied on the base of theories explaining the structure of profit maximizing firms. Information plays an important role in banking. The presence of information costs helps to explain why banks act as intermediaries. Information asymmetry gives rise to adverse selection and moral hazard, consequently it is argued that the banking illustrates a classical principal agent problem.

Keywords:

Banking System