2.5 Financial Intermediaries: Classifcation And Relationship.
Financial intermediaries are an organization of financial institutions, individuals and groups that link lenders and borrowers in the financial market. They act as middlemen and facilitate exchange of funds for financial securities. As expressed earlier, financial institutions exist primarily because of the conflict between lenders’ and borrowers’ requirements in terms of deal size, term to maturity, quality, price and liquidity.
The distinguishing characteristics between banks, finance houses, insurance companies, unit trusts or any other type of intermediary lie in the nature of the claims and services offered to lenders and in the nature of the claims and services offered to the borrowers.
It is logical to divide financial intermediaries into two broad categories: mainstream financial intermediaries (MFIs) and QFIs.
It is then reasonable to classify the MFIs into deposit and non-deposit intermediaries.
While the former category is straightforward, the second category may be split up in various ways.
A sensible split is into three categories:
1.Contractual Intermediaries (CIs),
2.Collective Investment schemes (also known as “portfolio intermediaries”) (CISs)
3.Alternative Investments (AIs).
A.Deposit Intermediaries:
Under the category deposit intermediaries a central bank and the private sector banks are always present. In many countries other deposit-taking intermediaries are established for various reasons, such as mutual banks, savings and loan intermediaries, a Post Office Bank etc.
Central bank: As is evident, the central bank intermediates between ultimate lenders; mainly the government (in its capacity as government banker), and the household sector (in its capacity as issuer of bank notes and coins) and the banks (i.e., their reserves required to be held for solvency and monetary policy purposes).
Private sector banks: The private sector banks intermediate between all the sectors that make up the ultimate lenders, and virtually all other financial institutions (in the form of deposits and loans), on the one hand, and all ultimate borrowers (in the form of loans, instalment credit and leasing contracts, mortgage advances and the purchase of securities) on the other hand. E.g. Barclays Bank, Equity Bank.
B. Contractual Intermediaries:
The category contractual intermediaries (CIs) is reserved for those intermediaries that offer contractual savings (and other like) facilities: the insurers and the pension funds.
Insurers: Insurers may be split into two groups: short-term insurers, long-term insurers (life companies or assurors). There are also re-insurers, but they fall into either of these two groups.
Short-term insurers: intermediate between the corporate and household sectors on the liabilities side of their collective balance sheet (this is mainly in the form of insurance policies issued), and the corporate and government sectors on the asset side of their balance sheet. E.g. Kenindia Insurance.
Long-term insurers: have a similar intermediation function as the short-term insurers. Their liabilities are comprised of various long-term polices, which are held mainly by the corporate and household sectors, while, on the asset side of their balance sheet, they hold the securities of all sectors with the exception of the household sector. E.g. NHIF
Re-insurers: Like short-term insurers, they are not regarded as financial intermediaries by purist economists, because their liabilities are not certain.
They intermediate between other insurance companies and the corporate and government sectors (in the form of holdings of their securities).
Pension funds: Retirement funds also known as pension and provident funds intermediate between the public in the form of so-called contractual savings on the one hand, and ultimate borrowers mainly in the form of shares/equities and securities of the corporate and government and foreign sectors held. E.g. NSSF
Collective Unit Trusts:
The category collective investment schemes (CISs) applies to securities unit trusts, property unit trusts, and exchange traded funds (ETFs). It will be recalled that in many countries there are two main types of CISs: Securities unit trusts SUTs, and Property unit trusts PUTs
Securities Unit Trusts: intermediate almost solely between the household sector on the one hand and ultimate borrowers (the corporate and government sectors) and financial intermediaries (mainly banks) on the other. Their assets are made up of almost all the securities of the corporate and government sectors (such as shares, bonds, treasury bills) and bank liabilities.
Property Unit Trusts: differ from the Securities unit trusts in that they are closed funds (i.e. their investment portfolio is fixed on property development). They intermediate mainly between the household sector and pension funds, on the one hand, and the corporate sector on the other hand (i.e. the borrowers of funds for property developments).
Alternative Investments:
In many countries another category of financial intermediary has emerged over the past number of years: alternative investments comprised of private equity funds and hedge funds.
Hedge funds: accept funds from certain high net worth individuals, foreign sector investors, and contractual intermediaries in the shape mainly of retirement funds. They are investors in the corporate and government sectors and have derivatives margin balances.
Private equity funds: They are large funds and invest in private equity, i.e. non-listed companies that they often “nurse” back to health (and listed companies that they delist, restructure, and list again).
C. Quasi-Financial Intermediaries:
It will be recalled that there are a number of institutions and funds that border on being classifed as financial intermediaries.
These institutions do not borrow and/or lend to the same extent as the mainstream intermediaries, or are not ongoing lenders and borrowers, i.e. they tend to have liability and asset financial portfolios that tend to be static
.
Development Finance Institutions:
These generally intermediate between ultimate lenders and fnancial institutions on the one hand and mainly domestic ultimate borrowers on the other.
The domestic ultimate borrowers are comprised of the household sector (mainly housing loans and small business loans to them), the corporate sector (Mortgage loans and shares) and the government sector (loans to local authorities). E.g. Development Bank of Africa
Finance companies:
Finance themselves by share capital and loans in various forms (from banks or other companies).
Their assets are loans in various forms to the household and corporate sectors. E.g. Housing Finance Company
Credit union: The business of a credit union, known also as a savings and credit cooperative (SACCO) is similar to that of a bank, but with the diference that it is a co-operative institution. The essence of its business is that of buying and selling money within a group of people who work in the same place or who are members of the same community (i.e. have a common bond). E.g. Mwalimu Sacco, Unaitas Sacco.
Micro-lenders: lend exclusively to the household sector. On the liability side of their balance sheets they are funded from own capital (i.e. from the household sector) and loans (from the household sector and from the corporate sector). E.g. Shy-locks
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