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    Financial Intermediation and Financial Intermediaries

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    Here are the key points requested for the home task: 1. Per capita income levels in RK and 3-5 developed countries like the US, Germany, UK, Japan. Include actual dollar amounts or percentages to show differences. 2. Description of the last major financial crisis (2008 global crisis). Factors that generated it like rise in home prices, easy credit, deregulation, risky lending, etc. 3. How the financial crisis affected the efficiency of financial intermediaries. Things like decline in lending, rise in defaults, tightening of credit standards, deleveraging on balance sheets, problems in banking system, impact on channeling funds from savers to borrowers.

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    Financial Intermediation and Financial Intermediaries

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    glee_
    19 views25 pages
    Here are the key points requested for the home task: 1. Per capita income levels in RK and 3-5 developed countries like the US, Germany, UK, Japan. Include actual dollar amounts or percentages to show differences. 2. Description of the last major financial crisis (2008 global crisis). Factors that generated it like rise in home prices, easy credit, deregulation, risky lending, etc. 3. How the financial crisis affected the efficiency of financial intermediaries. Things like decline in lending, rise in defaults, tightening of credit standards, deleveraging on balance sheets, problems in banking system, impact on channeling funds from savers to borrowers.

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    Fin Interm-tion

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    Here are the key points requested for the home task: 1. Per capita income levels in RK and 3-5 developed countries like the US, Germany, UK, Japan. Include actual dollar amounts or percentages to show differences. 2. Description of the last major financial crisis (2008 global crisis). Factors that generated it like rise in home prices, easy credit, deregulation, risky lending, etc. 3. How the financial crisis affected the efficiency of financial intermediaries. Things like decline in lending, rise in defaults, tightening of credit standards, deleveraging on balance sheets, problems in banking system, impact on channeling funds from savers to borrowers.

    Copyright:

    Attribution Non-Commercial (BY-NC)
    Download as PPT, PDF, TXT or read online from Scribd
    Download as ppt, pdf, or txt
    19 views25 pages

    Financial Intermediation and Financial Intermediaries

    Uploaded by

    glee_
    Here are the key points requested for the home task: 1. Per capita income levels in RK and 3-5 developed countries like the US, Germany, UK, Japan. Include actual dollar amounts or percentages to show differences. 2. Description of the last major financial crisis (2008 global crisis). Factors that generated it like rise in home prices, easy credit, deregulation, risky lending, etc. 3. How the financial crisis affected the efficiency of financial intermediaries. Things like decline in lending, rise in defaults, tightening of credit standards, deleveraging on balance sheets, problems in banking system, impact on channeling funds from savers to borrowers.

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    Financial Intermediation and

    Financial Intermediaries
    Q.:

    1. Intermediation and Financial


    Intermediaries, its Functions
    2. Types of Financial Institutions
    1. Intermediation and Financial
    Intermediaries, its Functions
    • Financial intermediaries channel funds between
    borrowers and lenders.

    Intermediation  transforming assets


    – the function of transforming assets or liabilities into
    other assets or liabilities
    • Liabilities – deposits
    • Assets – loans

    – this is the principal activity of most financial


    institutions.
    – intermediation improves social welfare by
    channeling resources to their most effective use.
    The Functions of Intermediation
    • Facilitate the acquisition/payment of goods
    &services via lower transactions costs
    – Chequing services provided by banks improve economic
    efficiency.

    • Facilitate the creation of a “portfolio”


    – A portfolio is a collection of financial assets
    – The financial system provides economies of scale & scope
    • Economies of Scope: cost savings that stem from engaging in
    complementary activities.
    • Economies of Scale: obtained when the unit cost of an
    operation decreases as more of it is done.
    • Ease liquidity constraints
    – Reallocate consumption/savings patterns
    • Often the liquidity required to make certain purchases is not in line
    with the immediate flow of income available to individuals.
    – The ability to influence the allocation of consumption and
    investment is probably the most important function of
    intermediation.

    • Provide security
    – Intermediation provides a host of services that reduce or shift
    risk.
    – Financial institutions can also influence the riskiness of
    financial transactions [contracts and insurance].
    • Reduce asymmetric information problem
    Asymmetric information can take on many forms, and is quite
    complicated. However, to begin to understand the implications
    of asymmetric information, we will focus on two specific forms:
    Adverse selection and Moral hazard

    – Moral hazard
    • the chance that an individual may have an incentive to act in a
    way such as to put that individual at greater risk; the individual
    perceives as beneficial actions that are deemed undesirable by
    another.
    – Adverse selection
    • decision making that results from the incentive for some people
    to engage in a transaction that is undesirable to everyone else
    – Banks have a comparative advantage in offering specialized
    services that help to reduce this problem.
    – Banks can also take advantage of this asymmetric
    information problem, with dire consequences.
    Adverse Selection
    1. Before transaction occurs
    2. Potential borrowers most likely to
    produce adverse outcomes are ones
    most likely to seek loans and be selected
    Moral Hazard
    1. After transaction occurs
    2. Hazard that borrower has incentives to
    engage in undesirable (immoral) activities
    making it more likely that won’t pay loan
    back
    Financial intermediaries reduce adverse
    selection and moral hazard problems, enabling
    them to make profits
    The Function of Financial Institutions

    • Brokerage an “agency”
    function
    – Brokers are agents who bring would-be
    buyers and sellers together so transactions
    can be made.

    Intermediation provides value-added


    but there are potential
    “externalities”. One intermediary’s
    actions can have consequences for
    the entire system.
    • Banks are particularly adept at
    intermediation because they can
    perform the necessary functions
    more cheaply than most institutions.
    • Technological change and
    deregulation have narrowed the
    comparative advantage of banks.
    Function of Financial Markets
    1. Allows transfers of funds from
    person or business without
    investment opportunities to one
    who has them
    2. Improves economic efficiency
    Indirect finance, which involves the activities
    of financial intermediaries, is many times
    more important than direct finance, in
    which businesses raise funds directly
    from lenders in financial markets.
    Financial intermediaries, particularly banks,
    are the most important source of external
    funds used to finance businesses.
    2. Types of Financial Institutions

    • Deposit-taking (depository institutions) accept and


    manage deposits and make loans. These institutions
    are divided into banks and other deposit-taking
    institutions (near-banks). Other deposit-taking
    institutions:
    – Trust companies – also provide administrative services for
    estates and trusts (fiduciaries).
    – Credit unions – these are member owned so that depositors
    are also shareholders.
    – Mortgage loan companies – also permit investors to invest
    in a portfolio of assets primarily real estate.
    • Insurance Companies and Pension Funds
    – Insurance companies provide the means of
    channeling savings to provide for unforeseen
    expenses by pooling the risks of their
    clientele.
    – There are also institutions that specialize in
    the management of pension plans and funds.
    Government legislation plays are large role in
    dictating how these pensions are
    administered.
    • Investment Dealers and Investment Funds
    – The plethora of investment funds (mutual funds) pool funds for
    investment in a wide range of activities and instruments without
    providing the other functions of a typical bank
    – Investment dealers primarily underwrite corporate and
    government securities.
    • Government financial institutions
    – Deposit-taking role
    – Channeling funds from the public to private sector
    – Protecting private funds by providing deposit insurance (KDIF).
    • Other Intermediaries
    – Sales, finance, and consumer loan companies.
    The “Four-Pillars”
    • Chartered banks: personal, commercial loans and
    deposits
    • Trust companies and credit unions: fiduciary
    responsibilities, personal loans and deposits
    • Insurance companies: underwriting insurance
    contracts.
    – Further subdivided into Life Insurers and Property and Casualty
    Insurers
    • Investment dealers: underwriting and brokering
    securities.
    Primary Assets and Liabilities of Financial Intermediaries

    16
    Regulation
    Two Main Reasons for Regulation
    1.Increase information to investors
    A. Decreases adverse selection and moral hazard
    problems
    B. Securities commissions force corporations to
    disclose information
    2.Ensuring the soundness of financial
    intermediaries
    A. Prevents financial panics
    B. Chartering, reporting requirements, restrictions
    on assets and activities, deposit insurance, and
    anti-competitive measures
    Key Points
    • Intermediation is a central concept
    • Financial institutions can be classified
    by type, size, function
    • Financial markets can be classified by
    size, term, organization, type of assets
    issued
    • Banks are the most adept at the
    intermediation function
    • Financial systems should strive for
    efficiency
    Case: Financial Development
    and Economic Growth
    • Financial repression leads to low growth
    • Why?
    1. Poor legal system
    2. Weak accounting standards
    3. Government directs credit (state-owned banks)
    4. Financial institutions nationalized
    5. Inadequate government regulation

    • Financial Crises
    Financial Crises and Aggregate
    Economic Activity
    Analysis of the affects of adverse selection
    and moral hazard can also assist us in
    understanding financial crises, major
    disruptions in financial markets. Then end
    result of most financial crises in the
    inability of markets to channel funds from
    savers to productive investment
    opportunities.
    Financial Crises and Aggregate
    Economic Activity
    • Factors Causing Financial Crises
    1. Increases in Interest Rates
    2. Increases in Uncertainty
    3. Asset Market Effects on Balance Sheets
    • Stock market effects on net worth
    • Unanticipated deflation
    • Cash flow effects
    Financial Crises and Aggregate
    Economic Activity
    • Factors Causing Financial Crises
    4. Problems in the Banking Sector
    5. Government Fiscal Imbalances

    U.S. Financial Crisis


    • The U.S. has a long history of banking
    and financial crises, dating back to 1819.
    • The next figure outlines the events
    leading to a financial crisis.
    Case: The Great Depression
    • In 1928 and 1929, stock prices doubled in
    the U.S. The Fed tried to curb this period
    of excessive speculation with a tight
    monetary policy. But this lead to a
    collapse of more than 60% in October of
    1929.
    • Further, between 1930 and 1933, one-
    third of U.S. banks went out of business.
    Case: The Great Depression
    • Adverse selection and moral hazard in
    credit markets became severe. Firms with
    productive uses of funds were unable to
    get financing. The prolonged economic
    contraction lead to an unemployment rate
    around 25%.
    Home task
    1. Per capital income in the RK and the
    developed countries (3-5 countries).
    2. Financial crises: description and factors
    generated last crisis.
    3. How financial crisis was reflected in
    efficiency of financial intermediaries
    activity?

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