Financial Asymmetry And Agency Theory: The Theory Of Financial Intermediaries

Introduction to the Financial System Financial Instruments Financial instruments can be: • Equity This is usually through the selling of common shares and/or common stock. It gives the buyer some ownership of the firm and thus, voting power when it comes to electing the board of directors. Debt This is money that is borrowed from someone else. Debt must be repaid at set intervals. Debt can be divided into short and long-term debt. This should follow the matching principle where short-term assets should be funded with short-term debt.

The global market has shown exemplary contribution to the growth of the world's development until recently where financial crisis have been bombarding most economies. As a result, the cost of livelihood had been unaffordable to many who live below the dollar. The monetary crisis has led to the lowering of many currencies against the dollar, hence advancing the economy crisis to most worldwide nations. This turn of events has been attributed to the lack of exercise of business and management ethics in many multinational companies, firms and investments. Financial scandals have been the order of the past twenty years leading to the sweep over of the flourishing global market. The scandals, especially in larger companies and multinational, are spurred by inter and intra-conflicts in their organizational structures.

Transparency is essential in a market based system, but is not necessarily a requirement for a bank-based system. In a bank based system, banks have long-standing working relationships with the companies seeking financing, and banks have on-going access to information about the firm. In a market based system, creditors and equity-holders require that financial information about companies seeking financing be available, sufficiently detailed and accurate if they are to participate in the market. This information, including audited financial statements, allows participants in the market to make

There are various categories of banking; these include retail banking, directly dealing with small businesses and persons. Commercial and Corporate banking which offers services to medium and large businesses (Koch & MacDonald 2010). Private banking, deals with individuals, offering them one on one service. The last category is investment banking. These help clients to raise capital and often invest in financial markets. Most global banking institutions provide all these services combined. With all these institutions in existence within the same localities and offering similar services, there is a need to regulate the industry so as to protect the consumer and provide fair working environment for all banks (Du & Girma, 2011).

All in all, I aim to assist in creating an illuminating understanding on American financial system and reforms through this public policy paper.

Market power in banking, for example, may, to a degree, be beneficial for access to financing. With too much competition, banks may be less inclined to invest in relationship lending .At the same time, because of hold-up problems, too little competition may tie borrowers too much to an individual institution, making the borrower less willing to enter a relationship (Claessens, 2009). More competition can then, even with relationship lending, lead to more access. Financial managers must be aware of its firm's competition and ensure a proper balance for financial

The Glass-Steagall Act of 1933 that defined the roles for commercial banks, investments banks and insurance firms was over ridden by the Gramm-Leach-Bliley Act (1999) which repealed the provisions that restricted affiliations in financial institutions. Hence one solution is to overcome the incentive problem and the conflict of interests that arise when financial institutions simultaneously undertake financial activities of varied nature.

The investment banks, and subsequent stock brokerage firms, was regulated by the Security and Exchange Commission. The banking entities, in this portion of the financial sector, were used to dealing in high risk business that were structured on the business’ equity and debt capital, instead of the commercial banks’ deposits of customers. The activities in this sector of the financial system were underwriting stocks and bonds, insurance markets, the investments in subprime debt markets and mortgages.

In this essay I will be addressing the “Too Big To Fail” (TBTF) problem in the current banking system. I will be discussing the risks associated with this policy, and the real problems behind it. I will then examine some solutions that have been proposed to solve the “too big to fail” problem. The policy ‘too big to fail’ refers to the idea that a bank has become so large that its failure could cause a disastrous effect to the rest of the economy, and so the government will provide assistance, in the form of perhaps a bailout/oversee a merger, to prevent this from happening. This is to protect the creditors and allow the bank to continue operating. If a bank does fail then this could cause a domino effect throughout

A: Most investments in the economy would fail to take place if there were no financial institutions because many independent investors do not like to take large amounts of risk. By utilizing financial intermediaries, which are “organizations that receive funds from savers and channel them to investors,” people are given peace of mind in knowing that their source of money/investing is more stable and accounted for. Those who apply this principle also value the liquidity, or convertibility, that financial institutions provide in the case of emergency or cold feet.

* Not only do borrowing and lending rates differ due to taxes and transaction costs, but some individuals are screened out of legitimate credit markets altogether due to informational asymmetries

Financial regulation is necessary and without an efficient set of regulations a country could see rises in unemployment, interest rates, and the deterioration of financial intermediaries. With the globalization of the financial industry, it becomes more and more common for businesses to seek financing outside of their county 's boarders. These innovations in the financial industry stress why it is so important for regulations to be created and changed to reduce risk and asymmetric information in financial systems.

List of abbreviations List of tables Acknowledgements Abstract 1. 2. 3. 4. 5. 6. 7. 8. Introduction Problem statement Objectives and hypothesis of the study Literature review Structure and performance of the financial sector in

Financial intermediaries provide a number of functions. The first of which is known as size transformation. A financial intermediary is able to borrow to an economic agent with a deficit of funds the amount they require without the need to find a lender that is willing to invest the exact amount required by the borrower. Without financial intermediaries, it would be extremely difficult for a borrower to raise capital as lenders would have to pool their funds together in order to lend the borrower the amount they require. Another function of financial intermediaries is maturity transformation. Economic agents with surplus funds usually prefer investing their money in short-term projects, whereas borrowers require more long-term financing. Financial intermediaries offer an optimal solution, without which borrowers and lenders would be in disagreement over the terms of the transfer of funds. Financial intermediaries also provide risk transformation. Economic agents with surplus funds are usually very risk conscious when it comes to investment, but borrowers however may require the finance for a more risky project, that may be more profitable. Financial intermediaries are willing to take risks that borrowers usually would not. However, there is usually a compensation agreement so as to avoid

Asymmetric information is the study of decision in transactions where one party gains more information than the other party. The theory of asymmetric information was first proposed in the 1970s and 1980s, it sometimes refers to as information failure and it is the contrast term to perfect information. Asymmetric information occurs whenever one party in an economic transaction appears to have greater knowledge than the other party engaged in the transaction. This normally explains itself when the seller (the first party) of a good or service possesses more information than the buyer (the second party), however, the opposite situation could be also possible like in the situation of financial market where the borrower (the second party) knows more information about his financial state than the lender (the first party). A good example of asymmetric information manifests in the situation of selling a car, in which the seller has the full knowledge of the car and its