If you’re thinking about going to business school or just curious about the banking industry, you may want to know about the difference between commercial banking and investment banking. Throughout most of the 20th century, following the Great Depression and ending in the late 1990s, U.S. law required commercial banks and investment banks to be completely separate. This regulation came about after the banking industry was blamed for failures in the financial system that led to the Great Depression, but the U.S. was the only country in the world to enforce such laws.
The History of Banking Regulations
The Glass-Steagall Act of 1933 placed strict regulations on the banking industry, according to Federal Reserve History. Commercial banks and investment banks were subject to different regulations, and they provided separate sets of banking services to large corporations, governments and other organizations. Commercial banks took deposits, managed bank balances, issued credit cards and loans and provided other common banking services offered by consumer retail banks.
The term commercial bank is typically used to refer to a bank that accepts deposits from large corporations, while retail bank usually refers to banks that take deposits from individual consumers. In contrast, an investment bank doesn’t deal with consumers at all and instead provides a wide range of investment services to large corporations, governments and other banks.
There are two sides to a typical investment bank, the sell side and the buy side, according to Investopedia. The sell side makes money by selling assets for currency, securities or equity, while the buy side makes money by investing funds for large corporate clients. There are many smaller departments within these two areas of investment banking, and the most prominent feature of the buy side is known as the front office.
The investment banking division of the front office is what most people think of when they’re talking about investment bankers. These are the people who advise large corporate clients on how to make money from mergers, acquisitions and investments, and they work alongside market traders in the front office of the firm. Traders make money by buying and selling shares of equity and other financial products, and they make up the other most prominent division of the firm. There are also bankers engaged in research, and these people are the ones who give advice on how to invest funds.
The Modern Banking System
The separation between commercial and investment banks ended in the 1990s, and for about 15 years or so, there were no differences in the regulations placed on these two types of financial institutions. In 2010, two years after the biggest financial disaster since the Great Depression, Congress passed a new law limiting the activity of the banking industry, the Dodd-Frank Act.
This law requires banks to keep commercial banking services completely separate from investment banking services, but large banks are still allowed to engage in both types of commerce. For example, J.P. Morgan Chase, Bank of America, Wells Fargo and other major banks offer commercial, retail and investment banking services, including asset management, merger and asset advising, trading and brokerage.
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The financial industry has its ups and downs, but good economic times always return following a market crash. If you have good analytical skills and love following market trends, you should keep learning about the difference between commercial banking and investment banking.
