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Benefits of financial intermediaries
Benefits of financial intermediaries
1.
Lower search costs. You don’t have to find the right lenders, you
leave that to a specialist.
2.
Spreading risk. Rather than lending to just one individual, you can
deposit money with a financial intermediary who lends to a variety of borrowers
– if one fails, you won’t lose all your funds.
3.
Economies of scale. A bank can become efficient in collecting
deposits, and lending. This enables economies of scale – lower average costs.
If you had to sought out your own saving, you might have to spend a lot of time
and effort to investigate best ways to save and borrow.
4.
Convenience of amounts. If you want to borrow £10,000 – it would be
difficult to find someone who wanted to lend exactly £10,000. But, a bank may
have 1,000 people depositing £10 each. Therefore, the bank can lend you the
aggregate deposits from the bank and save you finding someone with the exact
right sum.
Potential problems of financial intermediaries
·
There is no guarantee they will spread the risk. Due to poor
management, they may risk depositors money on ill-judged investment schemes.
·
Poor information. A financial intermediary may become complacent
about spreading the risk and invest in schemes which lose their depositors
money (for example, banks buying us mortgage debt bundles, which proved to be
nearly worthless – precipitating the global credit crunch.)
·
They rely on liquidity and confidence. To be profitable, they may
only keep reserves of 1% of their total deposits. If people lose confidence in
the banking system, there may be a run on the bank as depositors ask for their
money bank. But the bank won’t have sufficient liquidity because they can’t
recall all their long-term loans. (this can be overcome to some extent by a
lender of last resort, such as the central bank and / or government)
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