Syllabus B. Financial Management Environment B2. The nature and role of financial markets and institutions

The Role of Financial Intermediaries 2 / 4

A financial intermediary is an entity who performs intermediation between two parties

This means that the lender gives money to the borrower indirectly as the financial intermediary sits inbetween

It is typically an institution that allows funds to be moved between lenders and borrowers.

It works as follows:

  1. Savers (lenders) give funds to

  2. An intermediary institution (such as a bank), who then gives those funds to

  3. Spenders (borrowers)

    This may be in the form of loans or mortgages.

The Roles include

  1. Aggregating investments to meet needs of borrowers

    To provide a link between many investors who may have small amounts of surplus cash and fewer borrowers who may need large amounts of cash

  2. Risk transformation

    Intermediaries offer low-risk securities to primary investors to attract funds, which are then used to purchase higher-risk securities issued by the ultimate borrowers

  3. Maturity transformation

    Investors can deposit funds for a long period of time while borrowers may require funds on a short-term basis only, and vice versa. In this way the needs of both borrowers and lenders can be satisfied