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