Financial System and Financial Intermediary

Financial System 

           is a system that allows the exchange of funds between lenders, investors, and borrowers. Financial systems operate at national and global levels.

Financial intermediary 
           is an institution or individual that serves as a middleman among diverse parties in order to facilitate financial transactions. 
Commercial banks, investment banks, stockbrokers, pooled investment funds, and stock exchanges are included. Financial intermediaries reallocate otherwise uninvest capital to productive enterprises through a variety of debt, equity, or hybrid stake holding structures.

There are three major functions. Those are,

1. Creditors provide a line of credit to qualified clients and collect the premiums of debt instruments such as loans for financing homes, education, auto, credit cards, small businesses, and personal needs - Converting short-term liabilities to long term assets (banks deal with large number of lenders and borrowers, and reconcile their conflicting needs)
2. Risk transformation - Converting risky investments into relatively risk-free ones. (lending to multiple borrowers to reduce the risk)
3. Convenience denomination - Matching small deposits with large loans and large deposits with small loan.

There are some essential advantages and disadvantages from using financial intermediaries,

Advantages -

1.  Cost advantage over direct lending/borrowing. This includes,

• Reconciling conflicting preferences of lenders and borrowers

• Risk aversion intermediaries help spread out and decrease the risks

• Economies of scale - using financial intermediaries reduces the costs of lending and borrowing

• Economies of scope - intermediaries concentrate on the demands of the lenders and borrowers and are able to enhance their products and services (use same inputs to produce different outputs)

2. Market failure protection.  The conflicting needs of lenders and borrowers are reconciled, preventing market failure.

Disadvantages -

1. A lack of transparency
2. Inadequate attention to social and environmental concerns
3. A failure to link directly to proven developmental impacts.

The following institutions can act as financial intermediaries,

•    Banks

•    Mutual savings bank

•    Savings banks

•    Building societies

•    Credit unions

•    Financial advisers or brokers

•    Insurance companies 

•    Collective investment schemes

•          Pension funds   

•          Cooperative societies

•          Stock exchanges

    

The Central Bank of the Sri Lanka

(The Bank of The bank)

The Central Bank of Sri Lanka was established by the monetary law act (MLA) No.58 of 1949 and commenced operations on August 28, 1950. It was renamed the Central Bank of Sri Lanka (CBSL) in 1985. The Central Bank was given wide power to administer and regulate the entire money, banking and credit system of the country. The Central Bank was also given the sole right and authority to issue currency and it also became the custodian of the international reserves of the country.

Vision

“A credible and dynamic central bank contributing to the prosperity of Sri Lanka.”

Mission

"Maintaining economic and price stability and financial system stability to support sustainable growth through policy stimulus, advice, commitment and excellence.”

Values of Central Bank of Sri Lanka

1. Commitment to inspirational leadership - Providing strategic leadership to the financial sector.
2. Transparency in what we do - Being ready to explain the rationale behind our actions.
3. Accountability to our key stakeholders - the public, government, financial institutions and employees - Taking responsibility for our policy advice and actions.
4.  Integrity - trust, dependability, honesty - Matching words with deeds by discharging functions ethically in the best interests of our stakeholders. 
5. Commitment to professional competence - Dedication, quality and excellence in all we do.
6. Commitment to lifelong learning, knowledge sharing and innovation - Acquiring the required skills individually and collectively in a rapidly changing world.
7.  Consistency, accuracy and timeliness of all actions taken by the Bank - Earning respect for what we do.
8.  Managing and ensuring operational autonomy for policy formulation and implementation - Providing the organizational freedom for objective decisions.
9. Urgent and continuous commitment to results and outputs - Bringing a sense of urgency and timeliness into all our actions.
10. Commitment to collaborative and participatory work practices - Building positive team relationships within the Bank so as to ensure the maximum level of cooperation and team spirit.

Objectives of Central Bank of Sri Lanka

The objectives of the Central Bank as specified in the MLA in 1949 were;

     (a)  The stabilization of domestic monetary values (maintenance of price stability).

     (b)  The preservation of the par value or the stability of the exchange rate of the Sri Lankan Rupee (maintenance of exchange rate stability).

     (c)  The promotion and maintenance of a high level of production, employment and real income in Sri Lanka.

     (d)  The encouragement and promotion of the full development of the productive resources of Sri Lanka

However, in keeping with the worldwide trends in central banking and the rapid changes in international financial markets, consequent to the economic liberalization and the significant advancement in information technology, the Central Bank embarked on a modernization programmed in 2000 and the objectives were adjusted accordingly, bringing them down to two core objectives:

(1)    The maintaining of economic and price stability

Price stability safeguards the value of the currency in terms of  what it will  purchase at home and in terms of other currencies. It is interpreted to mean low and stable inflation. Low inflation or price stability fosters sustainable long term economic growth and employment.

(2)    The maintaining of financial system stability

A stable financial system is able to function smoothly, helping carry out economic activity in an uninterrupted manner.

Functions of Central Bank of Sri Lanka

•  The core functions of the Central Bank of Sri Lanka are:

1. Conduct of Monetary Policy - Monetary policy is the process by which a central bank manages the supply and the cost of money in an economy mainly with a view to achieve the macroeconomic objective of price stability. Central Bank of Sri Lanka is responsible for conducting monetary policy in Sri Lanka, which mainly involves setting the policy interest rates and managing the liquidity in the economy.
2. Conduct of Exchange Rate Policy - Since January 23, 2001, Sri Lanka has been following an independently floating exchange rate policy, which allows the exchange rate of the country to be determined by the supply and demand for foreign exchange in the economy.
3. Management of the Official International Reserves - As part of its mandate of financial system stability, the CBSL undertakes surveillance and oversight of the entire financial system taking into account its interaction with the real economy to monitor and limit systemic risks which could lead to financial and economic crises.
4.  Licensing, Regulating and Supervising of Banks and Selected Non-Bank Financial Institutions - The CBSL is responsible for regulating and supervising banks and selected non-bank financial institutions to promote their soundness and to safeguard the interests of depositors and investors.
5. Provision of Settlement Facilities and the Regulation of the Payment System - The maintenance of a well-functioning and secure payment and settlement system is an essential ingredient for a stable financial system. In terms of the Payment and Settlement Act, the Central Bank of Sri Lanka (CBSL) is authorized to regulate and supervise payment, clearing and settlement systems.
6. Issue and Distribution of the National Currency - The CBSL has the exclusive right under the Monetary Law Act to issue currency notes and coins that are the legal tender in Sri Lanka.
7. Compilation, Dissemination and Analysis of Economic Data and Statistics - Banker to the Government and its agencies, and provision of current account facilities to LCBs and non-commercial bank Primary Dealers for Government Securities

•      The agency functions of the Central Bank of Sri Lanka are:

In addition, the CBSL also performs the following agency functions on behalf of the Government of Sri Lanka:

1.      Management of the Public Debt
2.          Foreign Exchange Management
3.      Fund Management and Custodian of the Employees’ Provident Fund
4.      Facilitating Financial Inclusion
5.      Financial Intelligence services to prevent, detect, investigate and prosecute Money Laundering and Terrorist Financing