FINANCIAL INTERMEDIARIES: CHARACTERISTICS, FUNCTIONS, TYPES, EXAMPLES - DUDAS - 2025

The financial intermediaries are individuals or institutions that act as mediators between two parties to facilitate a financial transaction. They offer a number of benefits to the average consumer, including security, liquidity, and economies of scale included in commercial banking, investment banking, and asset management.

Financial intermediaries reallocate capital that would not otherwise be invested to productive companies, through a variety of debt structures, capital structures, or hybrid forms.

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They allocate the funds of people who have a surplus of capital, called savers, to whom they require liquid funds to be able to carry out some activity, called investors. This can be in the form of loans or mortgages.

Alternatively, the money could be lent directly through the financial markets, thus eliminating the financial middleman. This is known as financial disintermediation.

Importance

Although in certain areas, such as investing, technological advances threaten to eliminate the financial intermediary, disintermediation is much less of a threat in other areas, such as banking and insurance.

However, in the absence of financial intermediaries, people would not be able to carry out day-to-day transactions and large companies would have difficulty obtaining funds. That is why it is important to understand how relevant your role is.

Through a financial intermediary, savers can pool their funds, allowing them to make large investments.

The overall economic stability of a country can be demonstrated through the activities of financial intermediaries.

characteristics

Reduced risk

Financial intermediaries provide a platform where people with surplus cash can spread their risk by lending to multiple people, rather than just one. In addition, the borrower is carefully screened and screened, reducing the risk of default.

This same model applies to insurance companies. They collect premiums from clients and provide policy benefits if clients are affected by unforeseeable events such as accidents, deaths, and illnesses.

Regulation

Given the complexity of the financial system and the importance of intermediaries in influencing the life of the public, regulation is necessary. Several past financial crises, such as the “subprime” crisis, have shown that weak regulations could put the economy at risk.

The role of the central bank or monetary authorities is necessary to control dishonest financial intermediaries.

It is the monetary authorities that must ensure that there are adequate balances and controls in the system in order to avoid losses to investors and the economy in general.

Scale economics

Financial intermediaries enjoy economies of scale because they can take deposits from a large number of clients and lend money to multiple borrowers. This helps save time and costs on several fronts.

Practice helps reduce operating costs incurred in their normal business routines. In addition, they reduce the costs of the many financial transactions that an investor would have to make if the financial intermediary did not exist.

Economies of scope

Intermediaries often offer a range of specialized services to clients. This allows you to improve your products to meet the requirements of different types of customers.

For example, when commercial banks lend money, they can tailor loan packages to suit both large and small borrowers based on their specific needs.

Similarly, insurance companies enjoy economies of scope by offering insurance packages. It allows you to improve products to meet the needs of a specific category of customers, such as people with chronic diseases or the elderly.

Features

Provide loans

Financial intermediaries play the vital role of bringing together those economic agents with surplus funds that wish to lend them, with those entities with a shortage of funds that wish to obtain loans.

In doing so, the manager provides assets to shareholders, capital to companies, and liquidity to the market.

The granting of short and long-term loans is one of the main businesses of financial intermediaries. They channel funds from depositors with surplus cash to entities seeking to borrow money.

Borrowers typically borrow to purchase capital-intensive assets, such as business premises, cars, and manufacturing equipment.

Intermediaries grant loans at interest, part of which is delivered to depositors whose funds have been used. The remaining balance of interest is retained as earnings.

Borrowers are evaluated to determine their creditworthiness and ability to repay the loan.

Asset storage

Commercial banks provide facilities for the safe storage of both cash (notes and coins) and other liquid assets (precious metals such as gold and silver).

Depositors receive deposit slips, checks, and credit cards that they can use to access their funds. The bank also provides depositors with the records of withdrawals, deposits and direct payments that they have authorized.

Advise on investments

Some financial intermediaries, such as mutual funds and investment banks, employ in-house investment specialists who help clients increase their investments.

Companies leverage their experience in the industry and in dozens of investment portfolios to find the right investments that maximize return and reduce risk.

The types of investments range from stocks and real estate, to treasury bills and other financial derivatives. Intermediaries invest their clients' funds and pay them annual interest for a previously agreed period of time.

In addition to managing client funds, they also provide financial and investment advice to help them choose ideal investments.

Types

Banks

They are the most popular financial intermediaries in the world. The oldest way in which these institutions act as intermediaries is by connecting lenders and borrowers.

They are licensed to accept deposits, make loans, and offer many other financial services to the public. They play an important role in the economic stability of a country. Therefore, they face strong regulations.

Investment funds

They provide active management of the capital raised by shareholders. They help invest individual investors' savings in financial markets.

Pension funds

This type of intermediary is the one used by millions of workers to invest their savings for their retirement.

When someone signs up, they choose how much of their salary will be saved. All that money is used to buy assets that will perform well.

Once the employee retires, he will get all of his contributions, along with any earned earnings.

Insurance companies

Almost all operate in the same way. First, they find a large number of clients who need to get some kind of coverage, be it auto, home, or health. Once those clients purchase insurance coverage, those funds add to a large pool of money.

When someone needs to make a claim to request a payment, the intermediary will access that pool of money. This means that there is no cash inflow to the market.

Financial advisors

They offer private advice. They save having to understand all the complexities of the financial markets to find the best investment.

They advise investors to help them achieve their financial goals. These counselors generally receive special training.

Credit unions

They are a type of bank created by a community to provide banking services specifically to that community. They work to serve their members and not the public. They may or may not operate for profit.

They offer personal credit conditions using the money that other people deposited as savings. When someone needs a loan, they will receive it, because there are funds that other people have made available to the cooperative.

Stock exchanges

They simplify the long process of buying corporate stocks. They act as great platforms where people can order shares.

After paying those orders, the stock exchange will use that money to buy the stocks of the corporations.

The customer gets their desired assets, while the corporations get the funds. They are considered the financial intermediary of the investment world.

Examples

Commercial banks

When someone obtains a mortgage from a bank, they are being given the money that someone else deposited in that bank to save.

Suppose that Ms. Andrea is a homemaker and deposits her savings into her XYZ bank account every month. On the other hand, Boris is a young businessman looking for a loan to start his business. Boris has two options for taking advantage of a loan.

The first is to be able to find and convince people who are looking for investment opportunities. The second is to approach bank XYZ to request a loan.

It can be seen that the first option is uncertain as it will take a long time to find investors. However, the second option is faster and more convenient.

Thus, the financial intermediary facilitates the processes of lending and borrowing funds on a large scale.

Lenders

Suppose you want to start a textile business and you need $ 20,000 to pay the startup costs. You could ask everyone you know to lend the money, but there will probably be few people who would be willing to pay that amount.

Also, the process of randomly searching for a loan is both time and energy consuming. It is best to go to a lender to access the funds that are needed to start the business.

That's why lenders exist: to help connect those who have money with those who need it.

European Comission

In July 2016, the European Commission acquired two new financial instruments for investments from the European structural and investment fund.

The goal was to create easier access to financing for developers of urban development projects.

Compared to receiving subsidies, financial intermediation is better as a source of public and private financing, as it can be reinvested over many cycles.

The European Commission projected a total investment of public and private resources at $ 16.5 million for small and medium enterprises.

References

1. James Chen (2019). Financial Intermediary. Investopedia. Taken from: investopedia.com.
2. Wikipedia, the free encyclopedia (2019). Financial intermediary. Taken from: en.wikipedia.org.
3. Prateek Agarwal (2019). Financial Intermediaries. Intelligent Economist. Taken from: intelligenteconomist.com.
4. Sanjay Borad (2019). Financial Intermediaries - Meaning, Functions and Importance. Efinance Management. Taken from: efinancemanagement.com.
5. Top Accounting Degrees (2019). 5 Types Of Financial Intermediaries. Taken from: topaccountingdegrees.org.
6. CFI (2019). What is a Financial Intermediary? Taken from: corporatefinanceinstitute.com.
7. Chelsea Levinson (2018). What Is the Role of a Financial Intermediary? Bizfluent. Taken from: bizfluent.com.