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 In financial accounting, an asset is any resource owned or controlled by a business or an economic entity. It is anything (tangible or intangible) that can be used to produce positive economic value. Assets represent value of ownership that can ...

or liabilities are transformed into different assets or liabilities. As such, financial intermediaries channel funds from people who have surplus capital (

savers Savers, Inc. headquartered in Bellevue, Washington, U.S., is a privately held for-profit thrift store retailer offering second hand merchandise. An international company, Savers has more than 315 locations throughout the United States of Ameri ...

) 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. Type ...

). 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 use ...

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 Deposit account, 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 m ...

), 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 ...

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 ...

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 ma ...

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, which ...

. In the context of

climate finance Climate finance is "finance that aims at reducing emissions, and enhancing sinks of greenhouse gases and aims at reducing vulnerability of, and maintaining and increasing the resilience of, human and ecological systems to negative climate change i ...

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, a ...

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: #

Creditor A creditor or lender is a party (e.g., person, organization, company, or government) that has a claim on the services of a second party. It is a person or institution to whom money is owed. The first party, in general, has provided some property ...

s 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 ...

- 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

and development finance institutions. 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 (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 disti ...

institutions that intermediate deposits of pre-existing, real, loanable funds 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 sheet In financial accounting, a balance sheet (also known as statement of financial position or statement of financial condition) is a summary of the financial balances of an individual or organization, whether it be a sole proprietorship, a business ...

s. 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 Deposit account, 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 m ...

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 a ...

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 *

Credit union A credit union, a type of financial institution similar to a commercial bank, is a member-owned nonprofit financial cooperative. Credit unions generally provide services to members similar to retail banks, including deposit accounts, provis ...

s * Financial advisers 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 con ...

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 scheme 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 ...

s *

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 bank ...

" 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