Banks borrow money from several places: everyday customers who put cash into checking, savings, and CD accounts; other banks that lend overnight in the federal funds market; counterparties who hand over short-term cash in exchange for securities under repurchase agreements; the Federal Reserve’s discount window; the regional Federal Home Loan Banks; and investors in the capital markets who buy bank bonds, commercial paper, and stock. Each channel comes with its own cost, maturity, and regulatory baggage, and most banks use a mix of all of them.
Customer Deposits
Deposits are the single largest funding source for most banks, and the cheapest. When you open a checking account, savings account, or certificate of deposit, you are legally lending that money to the bank. The relationship is debtor-creditor: the bank records your balance as a liability, pays you interest, and promises the money back on demand or at a set maturity date.
The bank then lends most of that money out as mortgages, auto loans, and business credit, earning more in interest than it pays depositors. The gap is where most banks make their money. Since March 2020, the Federal Reserve has set reserve requirement ratios at zero percent for all depository institutions, so banks are not forced to hold back any set percentage of deposits as reserves.1Federal Reserve. Reserve Requirements Instead, liquidity rules push banks to keep enough high-quality assets to survive a 30-day stress scenario.
Deposits are not free money for the bank. Every insured institution pays an assessment to the FDIC to fund the Deposit Insurance Fund, which backs each depositor up to $250,000. Assessment rates range from 2.5 to 42 basis points of a bank’s assessment base per year, depending on risk profile and supervisory rating.2FDIC.gov. Deposit Insurance Assessments Assessment Rates Federal rules also control how quickly deposits must be made available for withdrawal under Regulation CC.3eCFR. 12 CFR Part 229 – Availability of Funds and Collection of Checks (Regulation CC) Certificates of deposit trade some of that quick access for a higher interest rate, giving the bank a more predictable funding horizon in exchange.
Brokered Deposits
Not all deposits come through a branch lobby. Banks also pull in money through brokered deposits, where a third party channels investor cash into deposit accounts, often through brokerage sweep programs that automatically move idle cash into FDIC-insured bank accounts.4Investor.gov. Investor Bulletin: Bank Sweep Programs Regulators watch this channel closely because brokered funds tend to leave faster than loyal retail deposits. A bank that is not well capitalized cannot accept brokered deposits at all without an FDIC waiver, and troubled banks face caps on the interest rates they can offer, which stops them from buying their way out of a crisis.5FDIC.gov. Section 29 – Brokered Deposits
Overnight Loans From Other Banks
At the end of each business day, some banks have more cash in their Federal Reserve accounts than they need. Others are short. The federal funds market lets the ones with extra lend to the ones who are low, almost always overnight. The borrower repays the next morning with a small amount of interest.
These loans are unsecured. There is no collateral, so the borrowing bank’s creditworthiness is the lender’s only protection. The rate on these trades, the federal funds rate, is steered by the target range the Federal Open Market Committee sets as part of monetary policy.6Federal Reserve. The Fed Explained – Accessible: FOCMs Target Federal Funds Rate or Range That rate anchors what banks charge each other and feeds into the pricing of consumer loans, adjustable-rate mortgages, and credit cards.
Government-sponsored enterprises, especially the Federal Home Loan Banks, are major lenders in this market. They sit on large cash balances and lend them out at or near the federal funds rate, giving commercial banks a steady source of overnight liquidity.
Repurchase Agreements
A repurchase agreement, or repo, is short-term secured borrowing. A bank sells securities to a counterparty and agrees to buy them back a day or a few weeks later at a slightly higher price. The price difference is effectively the interest. The New York Fed describes a repo as “economically similar to a loan collateralized by securities.”7FEDERAL RESERVE BANK of NEW YORK. Repo and Reverse Repo Agreements
Overnight repos mature the next day and make up roughly half the market. Term repos run from a few days to a year, though most mature within three months. Banks like repo funding because it is fast, liquid, and cheap compared with unsecured borrowing, since the collateral keeps rates low. The weakness is that repo lenders can walk away quickly. If the market loses confidence in the collateral or the borrower, lenders simply stop rolling over the loans, and the funding evaporates.
The Federal Reserve Discount Window
When private funding tightens, a bank can borrow straight from its regional Federal Reserve Bank through the discount window. Congress authorized this lending under 12 U.S.C. ยง 347, which allows Federal Reserve Banks to make short-term advances against eligible collateral.8Office of the Law Revision Counsel. 12 USC 347 – Advances to Member Banks on Their Notes The operational rules sit in Regulation A, and the window runs three programs:9Federal Reserve. Discount Window Lending
- Primary credit is available to banks in generally sound condition, with no restrictions on how the funds are used. The rate is set above the FOMC’s target federal funds range so banks exhaust private options first.
- Secondary credit is for banks that do not qualify for primary credit. The rate is higher still, and borrowers cannot use the funds to expand their assets.
- Seasonal credit is designed for small institutions with deposits under $500 million that face predictable seasonal cash swings, like farming or college-town cycles.
Every discount window loan must be backed by collateral, which can include Treasury securities, agency debt, and certain high-quality private obligations.8Office of the Law Revision Counsel. 12 USC 347 – Advances to Member Banks on Their Notes The above-market pricing is deliberate. The window is a backstop, not a first stop, and heavy use tends to draw regulatory attention, which is why many eligible banks have historically avoided it.
Federal Home Loan Bank Advances
The Federal Home Loan Bank system is a network of 11 regional cooperatives chartered by Congress in 1932 to support mortgage lending. Each one is owned by its member institutions: commercial banks, credit unions, thrifts, and insurance companies. Members borrow from their regional FHLB through collateralized loans called advances.10Office of the Law Revision Counsel. 12 USC 1430 – Advances to Members
To use the window, a member first has to buy and hold a minimum amount of stock in its regional FHLB. The required amount is set by each FHLB’s board and can be based on a percentage of total assets or outstanding advances.11Office of the Law Revision Counsel. 12 USC 1426 – Capital Structure of Federal Home Loan Banks Members buy more stock as they draw more advances. The collateral is usually residential mortgages or other real estate assets on the member’s books.
Community banks and mid-size lenders rely heavily on FHLB advances because the rates are typically lower than open-market alternatives. The FHLBs’ government-sponsored status lets them issue debt cheaply, and they pass most of the savings along. In periods of market stress, advances tend to spike as banks look for reliable funding without the regulatory stigma of the discount window.
Bonds, Commercial Paper, and Stock
Large banks regularly raise money in the capital markets. The instruments split into three categories.
Corporate Bonds and Subordinated Debt
Selling bonds lets a bank lock in funding for several years at a known cost. Investors buy the bond, the bank gets cash, and the interest and maturity are fixed from day one. Credit rating drives the rate: higher-rated banks borrow more cheaply, and a downgrade can push costs up noticeably.
Subordinated debt is a special category. It sits below depositors and general creditors in the repayment line if the bank fails, and that extra risk earns it a regulatory benefit: qualifying subordinated debt counts toward a bank’s Tier 2 capital. The face of every subordinated note must disclose that it is subordinate to the claims of depositors and general creditors, which is part of what makes it eligible to absorb losses before the deposit insurance fund takes a hit.12eCFR. 12 CFR 5.47 – Subordinated Debt Issued by a National Bank
Commercial Paper
For funding needs measured in weeks rather than years, banks issue commercial paper. These are short-term unsecured promissory notes used to cover payroll, fund loan commitments, or bridge cash-flow gaps. Under the Securities Act, notes maturing within nine months are exempt from SEC registration, which makes commercial paper quick and cheap to issue.13Office of the Law Revision Counsel. 15 USC 77c – Classes of Securities Under This Subchapter The catch is that the paper has to be rolled over at maturity, so any dip in investor confidence can leave the bank hunting for replacement funding.
Stock
Selling common or preferred stock is different in kind from borrowing. The money never has to be repaid. That permanence is why regulators treat equity as the backbone of a bank’s capital structure, absorbing losses and protecting depositors and the insurance fund.14FDIC.gov. Regulatory Capital The cost is dilution. Every new share reduces existing shareholders’ ownership, so banks reach for equity when they need to shore up capital or fund a major acquisition, not for routine funding.
Rules That Limit How Much Banks Can Borrow Short-Term
All of these channels sit inside a regulatory framework meant to stop banks from piling up more short-term debt than they can survive. Two rules do most of the work.
The Liquidity Coverage Ratio requires large banks to hold enough high-quality liquid assets to cover their projected net cash outflows over a 30-day stress period. The ratio must stay at 100 percent or higher, meaning the bank’s liquid cushion must fully cover what it could lose in a month-long funding crunch.15eCFR. 12 CFR Part 50 – Liquidity Risk Measurement Standards
The Net Stable Funding Ratio takes a longer view. It compares a bank’s available stable funding against the stable funding it needs to support its assets over a one-year horizon, and must be at least 1.0 for the largest institutions, with slightly lower thresholds for smaller banks depending on category and short-term wholesale funding levels.16eCFR. Subpart K – Net Stable Funding Ratio Between them, the two rules push banks toward a steadier mix of long-term funding and liquid reserves, making the kind of wholesale-funding panic that defined 2008 harder to set off.