What are financial intermediaries?
Financial intermediation is a process that occurs when a financial intermediary borrows money from one source to loan to another source for investment, funding or resources. This type of assistance is crucial to economic development and growth. The availability of these profitable savings and earnings channels has a direct effect on the economic well being of the community. The competition that occurs amongst these channels pushes down the cost of these funds and enables for fund availability (Yam, 2003).
Financial intermediaries act as the middleman for joining two unrelated parties in investing and growth. Most frequently, this process is completed through a financial institution backed by the FDIC, or Federal Deposit Insurance Corporation. Under this corporation, individual depositors are covered for up to $100,000 in deposit insurance. These businesses and individuals also have the opportunity to open multiple accounts and add additional signers to gain additional insurance on their money. It is the safest way to invest since the depositor has recourse against the bank should the system fail or become unprotected at any point (FDIC, 2007).
What role do financial institutions play in intermediation?
Financial institutions play a big role in financial intermediation as they channel monies from loans and savings to the needs of individuals, governments, and businesses (Gitman, 2006). Individuals and businesses save or store their money at a financial institution. The accounts used to store this money typically collect fees for transactions or even maintenance on the account. These monies are collected and given to another investment opportunity – for example, the money for a loan or mortgage from the bank comes from the money gathered from the institutions patrons (Financial Intermediation, n.d.).
Banks are not the only types of financial intermediaries, other organization can act as intermediaries as well. Financial institutions can be divided into two types: depository and non-depository. For depository we have traditional banks, credit unions, and savings and loan depositories. The other type, non-depository, includes financial advisors and brokers, insurance companies, life insurance companies, mutual funds, and pension funds are all competing financial intermediaries. Insurance companies operate in basically the same way. When a customer pays their monthly or seasonal premium for the insurance, the money is gathered and given to others perhaps to cover a loss or repairs on a car depending on the type of insurance purchased (Yam, 2003).
Actions made by financial institutions and other intermediaries should be handled with care and diligence. The money they use for investments should be handled with loyalty and respect since it belongs to or was earned from the customer of that financial institution.
Why are these roles important?
The process of financial intermediation is important to everyone. It helps the small business prosper by loaning monies needed to continue with successful business operations. It is important to the intermediaries because they earn business from both sides of the agreement. As a third party in this lending process, they arrange for two or more parties in the same community to assist one another with growth and expansion. To the lender or saver at a particular institution, they are able to gain interest on their savings by allowing it to be used in such a manner.
When a company goes IPO how should they respond to increased scrutiny from intermediaries?
The first public issue of a company’s stock is called the initial public offering (IPO). IPO’s are typically made by small but rapidly expanding companies to gain more capital, quickly. The money is needed to continue the success of the business. When a company “goes public,” they are typically greeted by increased scrutiny from intermediaries. This is because the financial institution underwriting or structuring the loan becomes heavily invested in the project as well. They are now responsible for promoting and facilitating the offering of the company stock. (Gitman, 2006)
Financial institutions must also evaluate for themselves if the proposition is worthy and if it will become profitably for them. Based on previous experience with the independent company the financial institutions can turn the firm away to keep the interests of their current customers in the forefront. There are usually lots of hoops for the company to jump through in order to secure the backing they need to proceed. The newly public company will have to settle its obligations with the lending institution to receive continued support. This may include fair and ethical work practices and even monthly financial reporting.
References:
CTU Online. (Ed.). (ca. 2007). Phase 3 Course Material [multimedia presentation]. Colorado Springs, CO: CTU Online. Retrieved October 17, 2007, from CTU Online, Virtual Campus, FIN310 Financial Management Principles: 0704A-05. Website: https://campus.ctuonline.edu/MainFrame.aspx?ContentFrame=/Classroom/course.aspx?Class=23719&tid;=39
Federal Deposit Insurance Corporation. (2007) FDIC Insurance Basics. Retrieved October 19, 2007, from http://www.fdic.gov/deposit/deposits/insured/basics.html
Financial Intermediation. (n.d.) What are financial intermediaries and intermediary institutions? Retrieved October 19, 2007, from http://www.financialintermediation.net/
Rayport, J. & Jaworski, B. (2007) Introduction to E-Commerce. (2nd ed.) New York: McGraw-Hill.
Yam, J. (2003) Government Information Center:Regulator and Financial Intermediation. Retrieved October 19, 2007, from http://www.info.gov.hk/hkma/eng/viewpt/20030306e.htm
