Lesson 3 Financial Intermediation Institutions and Instruments

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Lesson 3Financial Intermediation Institutions
and Instruments

• In this lesson we gain an understanding of the
  role and the benefits of financial
  intermediaries. We look at what kinds there are
  and what assets they trade
• Suggested Reading RSU Chapter 3

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Exhibit 1a

• Flow of Funds from Lenders to Borrowers

Financial Intermediaries
Borrowers-Spenders
Savers-Lenders
Financial Markets
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Exhibit 1b

• Flow of Funds from Lenders to Borrowers

Financial Intermediaries
Deficit Spending Units
Surplus Spending Units
Financial Markets
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Exhibit 2

• Characteristics of Surplus and Deficit Spending
  Units

DSUs Less numerous Larger Risk takers Longer
time horizon
SSUs Numerous Small Risk averse Short time
horizon
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Exhibit 3

• Financial Institutions listed by rank
• Commercial banks
• Private non-insured pension funds
• Mutual funds (stocks and bonds)
• Life insurance companies
• State and local government retirement funds
• Money market mutual funds
• Savings and loan associations and mutual savings
  banks
• Property and casualty insurance companies
• Commercial and consumer finance companies
• Credit unions

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Exhibit 4

• Financial assets traded in the capital market-
  listed by rank.
• Corporate stocks
• Residential mortgages
• U.S. government securities (marketable long term)
• Corporate bonds
• Commercial and farm mortgages
• State and local government bonds
• U.S.government agency securities

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Exhibit 5

• Important distinctions
• Debt versus equity debt holders receive fixed
  interest payments share (equity) holders receive
  dividends and/or (a share of the) profits. They
  face different incentives and conflicts.
• Direct versus indirect finance indirect finance
  goes through financial intermediaries.
• Primary versus secondary markets primary
  markets are where assets are sold where the are
  first created.