Financial Markets and Financial Intermediaries Essay
- Length: 8 pages
- Subject: Economics
- Type: Essay
- Paper: #20292041
Excerpt from Essay :
The cost of these funds and funds availability continue to go down due to the competition taking place between these savings and earnings channels. The joining of two distinct parties in investing and growth through financial intermediaries is mostly completed via a financial institution supported by Federal Deposit Insurance Corporation (FDIC).
In the financial intermediation process, financial institutions play a key role by channeling monies from loans and savings to needs of individuals, businesses and governments. As individual persons and businesses save their monies at financial institutions, their accounts normally collect transaction or account maintenance fees. The transaction or account maintenance fees are in turn given to another investment opportunity. A clear example of this is that the money collected from a bank's patrons is used as the bank's money for loans or mortgages.
As mentioned earlier, banks are not the only types of financial intermediaries as other organizations can as well act as financial intermediaries. These financial institutions which can play the role of financial intermediaries can be divided into two major types i.e. The depository and non-depository institutions. Savings and loan depositories, credit unions and usual banks are examples of depository institutions while insurance companies, financial brokers, financial advisors, life insurance companies, mutual and pension funds are examples of the non-depository institutions (Lennon 2009).
Basically, insurance companies function in the same way i.e. money given to others to cover for losses or repairs based on the purchased insurance type is collected when a customer pays their monthly or seasonal insurance premium. It's important for these financial intermediaries to function with care and diligence because the monies used for investments belong to the customer. These monies should also be handled with loyalty and respect because it was earned from the institution's customers.
Reasons why Financial Intermediaries Exist:
Financial intermediation process is very significant to everyone and the reasons listed below are some main reasons why these intermediaries exist.
Provision of loans:
Being financial institutions which borrow money from savers and lend to individuals or firms, financial intermediaries simplify the lending and borrowing of money. Financial intermediaries help the growth of small businesses by loaning monies to these businesses for their successful operations. Being a third party in the lending process, a financial intermediary arrange for two or more parties within the same community to help each other in growth and expansion. Lenders or savers in a particular financial institution gain interest on their savings by allowing it to be used for loans. On the other hand, the financial intermediaries earn business from both sides of the agreement.
Without financial intermediaries, it would be difficult to equal small amounts of individual savings to the larger amounts of loans desired by borrowers. The difficulty in equaling the savings and loans would have also made borrowing to be a more difficult and tedious process.
The other main reason why financial intermediaries exist is for the purpose of financial advice to companies. For example, when a rapidly expanding company decides to publicly issue its stock through the Initial Public Offer (IPO), the company is greeted with increased scrutiny from financial intermediaries. A company normally goes for the IPO to quickly gain more capital for the success of the business. These intermediaries subject the company to increased scrutiny because by financing or structuring the loan, the financial institution becomes heavily invested. The financial intermediary also becomes responsible for promoting and facilitating the offering of the company's stock. Financial intermediaries also evaluate themselves to determine whether the intention for the IPO is worthy or profitable for them.
Through the investigation of investors savings across various sectors of business, financial intermediaries bears risks on behalf of investors. These institutions transform each risk by risk pooling and spreading the risk across a range of institution. Financial intermediaries can pool risks by extending investments across various firms and projects. This diversification allows the financial intermediary to distribute assets and bear risk more efficiently. Financial intermediaries are also efficient in screening investment opportunities because they do risk screening, monitoring and evaluation as compared to individual investors. This process therefore saves the individual investor time and money while offering low risk investment opportunity (Hiray 2008).
Financial markets are basically tools which are used for a number of reasons with the major one being to raise capital. These markets can either be beneficial or harmful depending on how they are used by people to serve their purpose. The major role of financial markets is that it brings together people and organizations who want to borrow money and those with surplus funds. Each financial market deals with a different type of instrument's maturity and the assets backing it. These financial markets also serve different types of customers and operate in different parts of the world. They can be in local, regional, national and international markets and depending on an organization's size or extent of operations, it may borrow locally or internationally.
Essentially, being channels of monies to that help in meeting the financial needs of individuals, businesses and governments, financial institutions play a big role in financial intermediation. These financial intermediaries seem to have a key function in the restructuring and liquidation of companies in distress. By emerging as domestic, centralized markets where information on machines and buyers is readily available, financial intermediaries allow misplaced capital to transfer to fruitful use. Due to the fact that financial intermediaries act as matchmakers between savers and firms in the credit market, they also support their function as internal markets for assets.
Without the existence of financial markets, borrowers would have difficulty in finding lenders on their own. Financial intermediaries such as banks help in this process of finding lenders. As banks take deposits from the savings of lenders, they in turn lend the money from the pool of deposits to those who seek to borrow. Banks do this either by lending money in the form of loans or mortgages.
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