Institutions [Financial Institutions] :: Notes of Economics :: SSC CGL
Institutions [Financial Institutions] :: Notes of Economics :: SSC CGL
Institutions (Financial Institutions)
A financial institution (FI) is a company engaged in the business of dealing with monetary transactions, such as deposits, loans, investments and currency exchange. Financial institutions encompass a broad range of business operations within the financial services sector, including banks, trust companies, insurance companies, and brokerage firms or investment dealers. Virtually everyone living in a developed economy has an ongoing or at least periodic need for the services of financial institutions.
Because financial operations are a critical part of any economy, and because essentially all of a country’s citizenry depends on financial institutions for transactions, savings and investment needs, governments consider it imperative to oversee and regulate banks and other financial service companies. Historically, the bankruptcy of financial institutions creates panic within an economy. In the United States, the Federal Deposit Insurance Corporation (FDIC) insures regular deposit accounts to reassure individuals and businesses regarding the safety of their finances on deposit with financial institutions. The health of a nation’s banking system is a linchpin of economic stability. Loss of confidence in financial institutions can easily lead to additional negative externalities in the economy.
Types of Financial Institutions –
Common types of financial institutions include banks, Insurance Co, Leasing Co, Investment Co, Mutual Funds etc.
A financial institution can be defined as an organization that processes financial transactions such as loans, deposits and investments. Almost every person deals with various financial institutions on a daily basis. Whether it is depositing money, applying for loans or exchanging currencies, financial institutions are the nucleus of these activities. Here is a short overview on the list of financial institutions and a summary on their roles.
- Commercial Banks –
A Commercial bank accepts deposits & provides security in a convenient way to its customers. Previously, a part of the prime purpose of these banks was to provide security to the customer’s money. Commercial banks also generate loans that individuals & businesses utilize to purchase goods or even expand business operations. A Commercial Bank is also a type of Financial Institution that often performs roles as a payment agent within a country & between nations.
- Investment Banks –
While an investment bank is also referred to as a normal “bank,” its operations are very different from the deposit-gathering commercial banks. An investment bank is an institution that acts as a financial arbitrator that performs a wide array of services for governments and businesses.
- Insurance Companies –
An Insurance company pools risk by gathering premiums from a large number of people who wish to protect themselves or their loved ones from particular losses. These losses may include car accidents, fire incidents, disability, lawsuit, illness or death. Insurance companies also help individuals & companies to manage risk & preserve wealth.
- Brokerage Firms –
Brokerages act as arbitrators between buyers & sellers. They mainly assist in securities transactions. A Brokerage company is compensated via commissions after successful completion of transactions. For e.g. when the trade order for some stocks is carried out, a person generally pays a transaction fee. He pays this fee for the efforts the brokerage company puts in, to implement the trade.
So broadly speaking, Financial Institutions are Private or public organizations that act as facilitators between savers & borrowers of funds.
- Micro Finance Banks –
Microfinance is a type of banking service that is provided to unemployed or low-income individuals, or groups who otherwise have no other access to financial services. Ultimately, the goal of microfinance is to give low-income people an opportunity to become self-sufficient by providing a way to save money, borrow money and get insurance.
Microfinancing provides options to customers with limited resources to promote participation in productive activities or to support a small business. While institutions participating in the area of microfinance are most often associated with lending, some microfinance companies offer additional services, including bank accounts and insurance. Additionally, some institutions provide information in the areas of financial literacy, such as understanding interest rates and managing financial risks.
Microfinancing is not a new concept. Small microcredit operations have existed since the 18th century. The first occurrence of micro lending was attributed to the Irish Loan Fund system, introduced by Jonathan Swift, which sought to improve conditions for impoverished Irish citizens.
- Non-Banking Financial Company –
Non-banking financial companies, or NBFCs, are financial institutions that provide certain types of banking services, but do not hold a banking license. Generally, these institutions are not allowed to take deposits from the public, which keeps them outside the scope of traditional oversight required under banking regulations. NBFCs can offer banking services such as loans and credit facilities, retirement planning, money markets, underwriting, and merger activities.
- Leasing Companies –
The leasing company is the legal owner of the goods, but ownership is effectively conveyed to the lessee, who incurs all benefits, costs, and risks associated with ownership of the assets.
- Mutual Funds –
A mutual fund is an investment vehicle made up of a pool of funds collected from many investors for the purpose of investing in securities such as stocks, bonds, money market instruments and similar assets. Mutual funds are operated by money managers, who invest the fund’s capital and attempt to produce capital gains and income for the fund’s investors. A mutual fund’s portfolio is structured and maintained to match the investment objectives stated in its prospectus.
One of the main advantages of mutual funds is they give small investors access to professionally managed, diversified portfolios of equities, bonds and other securities. Each shareholder, therefore, participates proportionally in the gain or loss of the fund. Mutual funds invest in a wide amount of securities, and performance is usually tracked as the change in the total market cap of the fund, derived by aggregating performance of the underlying investments.
Mutual fund units, or shares, can typically be purchased or redeemed as needed at the fund’s current net asset value (NAV) per share, which is sometimes expressed as NAVPS. A fund’s NAV is derived by dividing the total value of the securities in the portfolio by the total amount of shares outstanding.
- Brokerage Houses –
A brokerage firm, or simply brokerage, is a financial institution that facilitates the buying and selling of financial securities between a buyer and a seller. Brokerage firms serve a clientele of investors who trade public stocks and other securities, usually through the firm’s agent stockbrokers.
- Savings Banks –
A savings bank is a financial institution whose primary purpose is accepting savings deposits and paying interest on those deposits.
Savings bank, financial institution that gathers savings, paying interest or dividends to savers. It channels the savings of individuals who wish to consume less than their incomes to borrowers who wish to spend more. This function is served by the savings deposit departments of commercial banks, mutual savings banks or trustee savings banks (banks without capital stock whose earnings accrue solely to the savers), savings and loan associations, credit unions, postal savings systems, and municipal savings banks. Except for the commercial banks, these institutions do not accept demand deposits. Postal savings systems and many other European savings institutions enjoy a government guarantee; savings are invested mainly in government securities and other securities guaranteed by the government.
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