To explain:
The difference between direct andindirect finance method. The reasons for a borrower or a saver select any of these methods.
Explanation of Solution
The basic difference between direct finance and indirect finance is that former channels funds between ultimate savers and lenders and borrowers and spenders without involvement of third party. Conversely, later does the same thing but with involvement of the intermediary third party. Additionally, former is riskier than the later.
A firm or borrower and a saver might choose each of the direct and indirect finance methods. This is because of their respective advantages. These are discussed below:
Advantages of direct finance:
- Direct finance reduces the cost of borrowing or lending since no intermediary third-party involvement exists there.
- This allows diversification of funding resources through access of domestic as well as international
money markets plus capital markets. So, this method is relatively beneficial for both parties. - Here, financial instruments used directly between needy and supplying groups are so much flexible and so it is convenient for both.
Advantages of indirect finance:
- Direct finance faces the challenge of asymmetric information causing emergence of information costs and imbalance while making transactions. So, relatively, indirect finance method is suitable for transaction than direct finance.
- Since the financial intermediaries take the duty of approaching investors and performing the further process, indirect financing is considered a faster way for businesses or firms to raise funds.
Finance methods:
Direct and indirect finance methods are the methods of channelizing funds to the borrowers and spenders by the savers and lenders.In indirectfinancing, borrowers take resources by indirect way like financial intermediaries. This is different from direct financing method where the borrowers are directly related to thefinancial markets. The borrowers in direct financing methodissue securities directly in the market.
Want to see more full solutions like this?
Chapter 23 Solutions
Principles of Economics (Second Edition)
- Trace the impact of selling more bonds by government on bond prices, interest rates, investment, aggregate demand, real GDP, and the price level.arrow_forwardBankers have a reputation for conservatism in politics, dress, and business affairs. Is there an economic rationale for this conservatism? Explain.arrow_forwardBased on current information on the U.S. stock market and the debt markets, including interest rates: (a) would you recommend that a firm raise funds through borrowing or by issuing stock? (b) would you recommend that a household build wealth by investing in the stock market or in real estate? Explain your answers to a. and b. Hint: You may begin with general information about current developments in the equity and debt markets, and the discuss how firms and households may use this information to make short-term and long-term financial decisions.arrow_forward
- Would the interest rate increase be more likely to hurt or help the financial institution’s profitability?arrow_forwardWhich of the following is NOT typically a role for a financial intermediary...? make public financial statements of borrowers evaluate the riskiness of lending to borrowers pool funds from lenders monitor the financial conditions of borrowersarrow_forwardWhich of the following would both make the interest rate on a bond higher than otherwise? a. the interest it pays is tax exempt and it is short term b. the interest it pays is tax exempt and it is long term c. the interest it pays is taxed and it is long term d. the interest it pays is taxed and it is short termarrow_forward
- Explain in your own words how interest rate brings financial market into equilibrium. Explain with graph Instructions: Solve within 30 minutesarrow_forwardon a supply and demand diagram for funds, show what happens to interest rates and explain what happens to savings and investment when household decreases their consumptionarrow_forwardIn preparation for this discussion, research the issue of consumer confidence. Document one or more methods used to characterize and measure consumer confidence. Compare and contrast how confidence might be related to financial markets’ expectations of risk of a recession, similarly to interest rate spreads. Do you find consumer confidence to be a useful measure? Explain why or why not.arrow_forward
- Economics: Private and Public Choice (MindTap Cou...EconomicsISBN:9781305506725Author:James D. Gwartney, Richard L. Stroup, Russell S. Sobel, David A. MacphersonPublisher:Cengage LearningMacroeconomics: Private and Public Choice (MindTa...EconomicsISBN:9781305506756Author:James D. Gwartney, Richard L. Stroup, Russell S. Sobel, David A. MacphersonPublisher:Cengage Learning