FINANCIAL INSTITUTIONS — MEANING, TYPES, ADVANTAGES AND DISADVANTAGES

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A Financial institution is an institution that deals with monetary, financial, and economic transactions such as credits, investments, credit exchange, loans, and advances.

It is an institution that is involved in a wide range of business operations within the financial sector. 

Financial institutions include banks, trust companies, insurance companies, brokerage firms, and investment dealers, that are mostly involved in providing financial services to clients and their members 

Financial institutions serve as intermediaries between customers and the debt markets offering banking and investment services. 

They're places where consumers can conveniently and efficiently manage their money and build a strong financial foundation. 

Furthermore, they serve as a link between savers and borrowers of funds.

TYPES OF FINANCIAL INSTITUTIONS

We can categorize financial institutions into two broad categories: Depository institutions and non-depository institutions.

DEPOSITORY INSTITUTIONS

These are institutions that are legally allowed to receive deposits from consumers. They include:

1. Commercial banks: These are arguably the most widely used financial institution, with branches in almost every country.

A commercial bank is a financial institution that accepts deposits ( via savings, time deposits, and current accounts) and lends to the general public.

Commercial banks serve as a payment system in the financial markets, as consumers can carry out financial transactions using checks and debit/credit cards.

People no longer need to keep large sums of money on hand thanks to commercial banks.

2. Savings banks: These are financial institution that receives savings account from savers and pays interest to the depositor.

Saving banks play an important role in the financial market as they channel the savings of people who want to spend less than their incomes to borrowers who want to spend more.

Because of the limited operations of savings banks, commercial banks usually take over the role of saving banks.  However, it is important to note that savings banks are not allowed to accept demand deposits.

3. Credit unions:  These are non-profit financial institutions that are owned and operated by their members.

Credit unions are essentially financial institutions that are formed by participants who join together willingly to save money and then lend it out only to members of their union.

Because of their non-profit status, credit unions enjoy tax exemptions in most jurisdictions.

NON-DEPOSITORY FINANCIAL INSTITUTIONS

These are financial institutions that are not legally allowed to receive deposits (cash and other valuables from consumers)  from the general public.

They also serve as intermediaries between savers and borrowers. 

They include:

1. Insurance companies: These are financial institutions that provide a wide range of insurance policies to protect individuals and corporations against the risk of financial losses in exchange for regular payment of a premium.

An insurance company operates by pooling risk by gathering premiums from a large number of policyholders. 

Insurance companies are important because they protect individuals and businesses from risks that are always inherent in every economic transaction.

2. Finance houses: The free dictionary defined a finance house as "a financial institution that accepts deposits of money from savers and which specializes in the provision of instalment credit to borrowers and leasing facilities".

It is a financial institution that provides small loans to individuals or businesses so that they can buy small things like cars or machinery.

Although finance houses are usually part of commercial banks, they can operate independently. 

It is important to note that finance houses are also called finance companies.

3. Mortgage banks: These are financial institutions that specialize in providing loans to individuals and businesses for the purchase of the real estate, particularly private residences.

It is essentially any financial that originates and services the mortgage loan. 

ADVANTAGES OF FINANCIAL INSTITUTION

1. Provide finance: Even when there is a depression, financial institutions provide financing to small, medium, and large businesses that require it.

2. Guidance and counselling: in addition to finance, financial institutions provide expert guidance and direction to businesses in the areas of financial management and project planning.

3. Aid business expansion: No business can expand production without adequate capital.

Through financial institutions' finances, businesses can expand production without facing much financial strain. This is because financial institutions give businesses loans and allow them to pay them back by instalment

4. Convenient interest rate: The basic repayment methods and interest rates provided by these financial institutions are often convenient and cost-effective.

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DISADVANTAGES OF FINANCIAL INSTITUTION

1. Cumbersome to access funds: Before one can obtain substantial funding from financial institutions, one has to go through various stringent and cumbersome processes and documentation. 

All of these can discourage prospective borrowers from seeking funds from financial institutions.

2. Takes time and effort: The rigidity of accessing funds from financial institutions ensures that it wastes time and effort. 

Because of this, potential borrowers may be discouraged from seeking funds from financial institutions particularly if the funds are urgently needed.

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