The Financial Intermediaries Role

Introduction

Financial intermediaries refer to firms, institutions or any other party that comes between two or more parties in the context of finances. They involve the banking institutions or other non-banking institutions that transfer finances from the agents in the economy with excess funds, to those experiencing deficits. They connect agents experiencing deficits and surpluses. The economic agents, who borrow the money from these intermediaries, are charged a lower interest than they could have paid if they borrowed from the actual lenders. The financial services offered are at low costs and the lending process is made easy. The low and middle income earners benefit from the services offered and they also get a chance to develop. These institutions play a significant role in the economy and its financial systems. Societies benefit from these institutions and their ways of life are enhanced (Karna 2006, par. 2-4).

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Categories of financial intermediaries

Financial intermediaries are divided into two categories. These are monetary financial institutions (MFIs) and other financial institutions (OFIs). The MFIs receive deposits from other institutions and individuals, and they advance credit to their customers at a certain rate of return. OFIs includes other institutions which do not take deposits like insurances, mutual and pension funds, savings and loan associations, and other institutions which are permitted to lend. Lending through these institutions is less risky because they are able to diversify the loans. They have a variety of loans and as much as they could be seen as risky, these risks are catered for by the many loans. They insure their customers from any losses in their deposits. These institutions also have the ability to distinguish the borrowers with an ability to repay the loans (Robert 2009, par. 2-4).

The customers to these institutions are able to obtain liquidity and their assets can be turned to money which they spend to meet their needs. The cash they hold as deposits from their customers is used to lend as loans. These institutions can also borrow and lend among themselves. They also borrow and lend to their governments and to the foreign market (Robert 2009, par. 6).

Roles of financial intermediaries

Financial intermediaries enhance the growth of the economy and optimum allocation of resources. This is because they offer finances to the people that are used in development of projects. In addition, they offer their products and services to all the people in the economy regardless of the personal background, race or region as long as the customer is able to repay. This enhances the growth of all regions in the country and resource allocation (Adriana 2007, p. 2). They are in a position to control the inflation rates, stock markets, trade and, if there is a recession in the economy, they are affected adversely. Since they have a control of their interest rates governed by the regulatory bodies, they are able to control the growth of the economy (Thorsten & Ross 2002, p. 427).

These institutions play a role in the sharing of risks in the economy through the cutting down of the costs involved in transactions. Costs of handling different portfolios are reduced by proper utilization of the economies of scale. They assist their clients to reduce the risks of one investment that many investors have. The average return is expected to rise if the investors possess many securities, unlike situations where only one security is held (Joelee 2009, par. 11). They are able to obtain financial information from their customers with ease. They appraise the businesses of the people they are funding and thus, they are able to evaluate the capability of their customer. They provide training to their clients on the making of wise financial decisions. This improves the knowledge level of the people and they are able to make productive decisions when investing. The funding institution monitors the progress of the projects they have funded and therefore, a long time relationship develops between the borrower and the lenders (The Treasury 2004, p.17).

They are able to curb the moral hazards that develop between the lenders and the borrowers. This occurs in situations where the borrowers might end up not repaying the loans due to poor relationship with their lenders where they feel that they are losing more than they are gaining from the process. They have expert knowledge in differentiating the good and bad borrowers (European Central Bank 2001, par. 5). The people are able to obtain financial assistance from these institutions with ease because they have very few restrictions when funding. They also offer assistance within a short span of time since, they have few processes and this makes it easy for the borrowers. This brings development in the societies because even the middle and low class people are able to get financial assistance (William 1999, par. 7).

Besides satisfying the needs of the people, these institutions enhance the accumulation of capital by investors. This is important for growth and development of any economy. The companies’ with surplus resources are assisted to distribute them to the areas with deficits (Osman 2005, par. 1). There are rules governing these institutions to ensure that the services they offer are tailored towards meeting the needs of the people. They come up with products for each category of people. There are products and services for the elderly, the young and upcoming businesspersons, and the well-established people. This makes it easy for the borrowers as they know or they are advised on the service that would fit their need. The charges for these services are considerable depending on the ability of individual and the type of service (IFCI Foundation 2009, par. 7).

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They are a tool of poverty in the economy as they offer financial services to the poor. The poor in the economy are prone to variations in income and hence, their financial status is very risky. They have limited access to the insurance markets and credit. The poor lack collateral to give for them to access loans, also the costs incurred in small transactions is very high to the lending institutions. Therefore, micro-finances are very essential to the poor because the financial assistance offered to them enhances their consumption patterns (Mishkin & Eakins 2008, p. 115). This improves their standards of living and the incomes earned are enhanced. The opportunity of entrepreneurship is offered to the poor since they are even loaned the money to establish a business and if they prove that they are able to pay, they can access bigger loans to set bigger investments. Employment opportunities are also created in the economy because if investment projects are funded by these institutions, they offer employment to the owner and the employees either in the management level or as casuals. Women also get a chance to grow because, these institutions to not discriminate against women. There are other institutions, which lend only to women to ensure that they empower them. Finances are offered to the poor without demanding for physical collateral on very low transaction costs, also the social and human capital among the middle and low class is strengthened (Karna 2006, par. 8).

The regulation of money among the people is also enhanced. The local and foreign intermediaries control the amount of money in circulation in the economy. These institutions do the monitoring and since they have accessed the needs of their customers, they offer them the services that fit their needs. This role of regulation enables these institutions to be in a position to predict the expected changes in the economy. This enables them to offer the appropriate advice to their customers and the government (Christopher & Jorge 1990, p. 118). Financial intermediaries have promoted industrial development in the economies. They finance innovation and these projects become a resource for the nation. They offer huge loans that finance the construction, supplying and development of industries. These industries create employment to the population and they increase the revenues earned by the government (Saghir 1998, p.2). The long-term loans offered become very useful since they are serviced without straining. Industrial growth also earns the country foreign exchange because the levels of exportation are increased. This growth is a strong base in the economy since even in times of financial hardships the country will be in a position to maintain its people in jobs to ensure that they are able to get a livelihood (Raymond 1958, p. 190).

Conclusion

Financial institutions realized that use of collateral when issuing loans is not enough to give them liquidity. They wanted to increase their client base and loan portfolio and they have come to realize that the small investors are the best to invest in. The collaterals become hard to sell incase of default and it involves a tiresome process. The institutions offering loan facilities experience the highest profits because their loans are paid with an interest. The smaller the interest rates the more the number of customers (Eric 2008, par. 15). The people in the society have benefited a lot from the financial intermediaries. They are able to get credit at low costs and with ease because it would be a very expensive and tedious process to obtain these services from the actual lenders. The moral hazards are also curbed and these institutions ensure that customers repay their loans. In addition, the low-income earners are able to get credit without having to give physical collateral. They obtain loans cheaply and this enables them to come up with investments so that they can improve their standards of living. These lending institutions have played a major role in the societies. Economic and industrial development is also enhanced and thus, the economies of scale are improved.

Reference List

Adriana, M 2007, Financial instruments and capital markets. Web.

Christopher, B & Jorge, B 1990, Unity with diversity in the European economy: the community’s southern frontier, Cambridge University Press, New York.

Eric, S. 2008, The impact of financial institutions and financial markets on the real economy: Implications of a ‘liquidity lock’. Web.

European Central Bank 2001, The role of financial markets for financial growth. Web.

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IFCI Foundation 2009, The role of financial intermediaries, International Financial Risk Institute. Web.

Joelee, B. 2009, Financial systems in the U.S. economy. Web.

Karna, J 2006, Role of financial intermediaries in the 21st century. Web.

Mishkin & Eakins 2008, Financial markets and institutions (6th ed.), Pearsons, New York.

Osman, K. 2005, The role of financial intermediaries in the economy. Web.

Robert, S 2009, Financial intermediaries. Web.

Saghir, A. 1998, Financial intermediaries and industrial development, A.P.H, New Delhi.

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Raymond, W 1958, The role of financial intermediaries in financing the main investor groups, Cambridge University Press, New York.

The Treasury 2004, The role of financial systems in the economy, Treasury, New Zealand.

Thorsten, B. & Ross, L.2008, ‘Stock markets, banks, and growth: panel advice’, Journal of Banking and Finance, vol. 28. pp. 423-42.

William, P. 1999, What are the roles of financial intermediaries? Web.

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