Financial Intermediaries Paper

Essay by vgeltzUniversity, Bachelor'sA-, April 2008

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Financial intermediaries have traditionally played a pivotal role in the growth of the economic sector. The creation of money as a means of exchange and a beneficial way for people to trade their assets, and more importantly to take advantage of the great monetary value attached to them has caused the appearance of specific institutions, markets and individuals that provide the appropriate environment to perform these activities.

Financial intermediary refers to an institution, firm or individual who performs intermediation between two or more parties. These institutions assist the channeling of funds between lenders and borrowers. These institutions are engaged in bringing the two parties together by borrowing funds from lenders and lending them to borrowers so that both parties find the transaction more favorable than if they traded directly with each other.

Financial intermediaries are able to greatly reduce the possibility of potential risks by sharing the risks among various investors and consequently achieving a significant diversification.

This diversification is due to the large number of resources that these institutions deal have at their disposal. In this way, they turn "risky assets into safer ones for the benefit of investors and for theirs as well as they gain profits on the difference between the returns and the payments they make." (Morawski, 2007)Another important reason why financial intermediaries have such a significant role is because of the inequality of information available between parties. "The terms of the transactions being held between parties are mutually satisfying and therefore, jeopardize the solidity of market conditions. Allegedly, financial intermediaries are able to lessen these problems." (Morawski, 2007) The institutions involvement in the intermediation process enables them to examine risks and monitor the use of the loans that are provided.

The Federal Reserve is the governing agency that controls the amount of money in our...