A financial intermediary is an institution or individual that serves as a middleman among diverse parties in order to facilitate financial transactions. Common types include commercial banks, investment banks, stockbrokers, pooled investment funds, and stock exchanges. Financial intermediaries reallocate otherwise uninvested capital to productive enterprises through a variety of debt, equity, or hybrid stakeholding structures. Through the process of financial intermediation, certain assets or liabilities are transformed into different assets or liabilities. As such, financial intermediaries channel funds from people who have surplus capital ( savers) to those who require liquid funds to carry out a desired activity (

investors An investor is a person who allocates financial capital with the expectation of a future return (profit) or to gain an advantage (interest). Through this allocated capital most of the time the investor purchases some species of property. Typ ...

). A financial intermediary is typically an institution that facilitates the channeling of

funds Funding is the act of providing resources to finance a need, program, or project. While this is usually in the form of money, it can also take the form of effort or time from an organization or company. Generally, this word is used when a firm uses ...

between lenders and borrowers indirectly. That is, savers (lenders) give funds to an intermediary institution (such as a

bank A bank is a financial institution that accepts deposits from the public and creates a demand deposit while simultaneously making loans. Lending activities can be directly performed by the bank or indirectly through capital markets. Because ...

), and that institution gives those funds to spenders (borrowers). This may be in the form of

loan In finance, a loan is the lending of money by one or more individuals, organizations, or other entities to other individuals, organizations, etc. The recipient (i.e., the borrower) incurs a debt and is usually liable to pay interest on that de ...

s or

mortgage A mortgage loan or simply mortgage (), in civil law jurisdicions known also as a hypothec loan, is a loan used either by purchasers of real property to raise funds to buy real estate, or by existing property owners to raise funds for any p ...

s. Alternatively, they may lend the money directly via the

financial market A financial market is a market in which people trade financial securities and derivatives at low transaction costs. Some of the securities include stocks and bonds, raw materials and precious metals, which are known in the financial marke ...

s, and eliminate the financial intermediary, which is known as financial

disintermediation Disintermediation is the removal of intermediaries in economics from a supply chain, or "cutting out the middlemen" in connection with a transaction or a series of transactions. Instead of going through traditional distribution channels, whic ...

. In the context of climate finance and development, financial intermediaries generally refer to private sector intermediaries, such as banks, private equity, venture capital funds, leasing companies, insurance and pension funds, and micro-credit providers.Institute for Policy Studies(2013),
Financial Intermediaries
, A Glossary of Climate Finance Terms, IPS, Washington DC Increasingly,

international financial institutions An international financial institution (IFI) is a financial institution that has been established (or chartered) by more than one country, and hence is subject to international law. Its owners or shareholders are generally national governments, al ...

provide funding via companies in the financial sector, rather than directly financing projects.

Functions performed by financial intermediaries

The hypothesis of financial intermediaries adopted by

mainstream economics Mainstream economics is the body of knowledge, theories, and models of economics, as taught by universities worldwide, that are generally accepted by economists as a basis for discussion. Also known as orthodox economics, it can be contrasted to ...

offers the following three major functions they are meant to perform: # 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. # Risk transformation # Convenience denomination

Advantages and disadvantages of financial intermediaries

There are two essential advantages from using financial intermediaries: # Cost advantage over direct lending/borrowing # Market failure protection; The conflicting needs of lenders and borrowers are reconciled, preventing market failure The cost advantages of using financial intermediaries include: #Reconciling conflicting preferences of lenders and borrowers #Risk aversion intermediaries help spread out and decrease the risks #

Economies of scale In microeconomics, economies of scale are the cost advantages that enterprises obtain due to their scale of operation, and are typically measured by the amount of output produced per unit of time. A decrease in cost per unit of output enables a ...

- using financial intermediaries reduces the costs of lending and borrowing #

Economies of scope Economies of scope are "efficiencies formed by variety, not volume" (the latter concept is "economies of scale"). In economics, "economies" is synonymous with cost savings and "scope" is synonymous with broadening production/services through div ...

- 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) Various disadvantages have also been noted in the context of climate finance and

development finance institution A development financial institution (DFI), also known as a development bank or development finance company (DFC), is a financial institution that provides risk capital for economic development projects on a non-commercial basis. , total commitme ...

s. These include a lack of transparency, inadequate attention to social and environmental concerns, and a failure to link directly to proven developmental impacts.

Types of financial intermediaries

According to the dominant economic view of monetary operations,"The currently dominant intermediation of

loanable funds In economics, the loanable funds doctrine is a theory of the market interest rate. According to this approach, the interest rate is determined by the demand for and supply of loanable funds. The term ''loanable funds'' includes all forms of credit, ...

(ILF) model views banks as

barter In trade, barter (derived from ''baretor'') is a system of exchange in which participants in a transaction directly exchange goods or services for other goods or services without using a medium of exchange, such as money. Economists distingu ...

institutions that intermediate deposits of pre-existing, real,

between depositors and borrowers. The problem with this view is that, in the real world, there are no pre-existing loanable funds; and ILF-type institutions do not exist. Instead, banks create new funds in the act of lending, through matching loan and deposit entries, both in the name of the same customer, on their balance sheets. The financing-through-money-creation (FMC) model reflects this, and therefore views banks as fundamentally monetary institutions. The FMC model also recognises that, in the real world, there is no deposit multiplier mechanism." Fro
"Banks are not intermediaries of loanable funds — and why this matters"
b

and

Michael Kumhof Michael Kumhof (born 15 October 1962) is a German researcher and economist. He is the senior research advisor in the Bank of England's research hub. He is most known for his research into the financial system, income inequalities and the oil sup ...

Bank of England The Bank of England is the central bank of the United Kingdom and the model on which most modern central banks have been based. Established in 1694 to act as the English Government's banker, and still one of the bankers for the Government o ...

Working Paper No 529, May 2015 the following institutions are or can act as financial intermediaries: *

Bank A bank is a financial institution that accepts deposits from the public and creates a demand deposit while simultaneously making loans. Lending activities can be directly performed by the bank or indirectly through capital markets. Because ...

s *

Mutual savings bank A mutual savings bank is a financial institution chartered by a central or regional government, without capital stock, owned by its members who subscribe to a common fund. From this fund, claims, loans, etc., are paid. Profits after deductions ...

s *

Savings bank A savings bank is a financial institution whose primary purpose is accepting savings deposits and paying interest on those deposits. They originated in Europe during the 18th century with the aim of providing access to savings products to al ...

s *

Building societies A building society is a financial institution owned by its members as a mutual organization. Building societies offer banking and related financial services, especially savings and mortgage lending. Building societies exist in the United Kingdo ...

* Credit unions *

Financial adviser A financial adviser or financial advisor is a professional who provides financial services to clients based on their financial situation. In many countries, financial advisors must complete specific training and be registered with a regulatory ...

s or

broker A broker is a person or firm who arranges transactions between a buyer and a seller for a commission when the deal is executed. A broker who also acts as a seller or as a buyer becomes a principal party to the deal. Neither role should be confu ...

s *

Insurance Insurance is a means of protection from financial loss in which, in exchange for a fee, a party agrees to compensate another party in the event of a certain loss, damage, or injury. It is a form of risk management, primarily used to hedge ...

companies * Collective investment schemes *

Pension fund A pension fund, also known as a superannuation fund in some countries, is any plan, fund, or scheme which provides retirement income. Pension funds typically have large amounts of money to invest and are the major investors in listed and priva ...

s * Cooperative societies * Stock exchanges According to the alternative view of monetary and banking operations, banks are not intermediaries but "fundamentally

money creation Money creation, or money issuance, is the process by which the money supply of a country, or of an economic or monetary region,Such as the Eurozone or ECCAS is increased. In most modern economies, money creation is controlled by the central ban ...

" institutions, while the other institutions in the category of supposed "intermediaries" are simply

investment fund An investment fund is a way of investing money alongside other investors in order to benefit from the inherent advantages of working as part of a group such as reducing the risks of the investment by a significant percentage. These advantages inc ...

Summary

Financial intermediaries are meant to bring together those economic agents with surplus funds who want to lend (invest) to those with a shortage of funds who want to borrow. In doing this, they offer the benefits of maturity and risk transformation. Specialist financial intermediaries are ostensibly enjoying a related (cost) advantage in offering financial services, which not only enables them to make profit, but also raises the overall efficiency of the economy. Their existence and services are explained by the "information problems" associated with financial markets.

References

Bibliography

*Pilbeam, Keith. Finance and Financial Markets. New York: PALGRAVE MACMILLAN, 2005. *Valdez, Steven. An Introduction To Global Financial Markets. Macmillan Press, 2007. {{Authority control Financial services organizations