Roles Played by Financial Institutions in an Economy - Essay Example

 Roles Played by Financial Institutions in an Economy Introduction Financial Institutions (FI), are institutions that give or offer financial aid or support to the members or clients of the institutions. Financial Institutions are usually companies that take money from individuals or from other companies, and use the money to buy financial assets for instance, loans, securities and deposits (Sunil, 2011). The money that these Financial Institutions get from the individuals or companies is however not used to buy tangible properties. According to Reserve Bank of Australia, 2014, financial Institutions include such institutions as Banks, Building Societies, Credit Unions, Public Unit Trusts, Cash Management Trusts, Securitisers, Money Market Corporations, Insurance Companies and many more. Financial Institutions play a very important role in the economy by the provision of various financial instruments (Frank, 2003). Different types of Financial Institutions provide different services to its members or clients. For example, Banks provide such services as mortgages, loans and credit cards while on the other hand a financial institution such as Insurance Firms provide services such as insurance services, securities and buying and selling services of real estate. These financial institutions however interconnect with one another to provide different roles in the economy. Some of the major roles of Financial Institutions are discussed in this essay as follows. Roles of Financial Institutions in an Economy The first major role of financial institutions in the economy is that the financial institutions motivate the financial sector of the economy. Financial institutions such as banks in most cases will use the resources that they own to benefit themselves (Sera, 2005). They will use these resources to make profits for themselves and for their own growth. This is however helpful to the economy of a country as there will be increase in the business of investing when these financial institutions grow. This because there will be a boost in the financial instruments such as increase in the amount of loans that a bank can give to an individual or to other companies. With the growth of these financial institutions the financial sector of the economy becomes motivated and the economy of the country is strengthened. The second role of the financial institutions to the economy is that the financial institutions will introduce and develop Niche strategies. The financial institutions in the processes of carrying out there businesses, they also come up with financial knowledge about products, which they share with the society and in the process creating a sustainable economic growth (Sera, 2005). These knowledge and ideas are well thought through and usually when they are implemented give positive good results to the economy of a country. A good example is the Express Loan introduced by SME bank in the year 2004/2005. The main aim of the bank was to market their new loans with different alternatives and rates but the bank ended up not only attracting more customers to take this loan but also educating the members of the society and in the process strategizing for a better and stronger economy in the country. Another role played by the financial institutions in the economy is the provision of finance to the small sectors of the economy (Sunil, 2011). These small sectors majorly exist in the third world counties such as the African countries and also in highly populated countries such as Mexico or India. The availability of the small-scale sector in the economy is greatly dependent on credit. It is the role of the financial institutions to make this happen by providing these sectors of the economy with funds in terms of credit to be paid later. The small-scale businesses use the credit as starting capital and operating capital during their initial periods of operation before they are able to generate their own profits. From the credits they are therefore capable of paying bills such as electricity and water and also pay the wages and salaries to their employees. The SMEs also are able to create long term credits such as land and machinery they are as a result able to operate better than if there were no funds. This has as a result created the foundation for staring companies, which later grow into bigger multi-billion dollar companies that strengthen the economy. Also, due to financial institutions the economy is capable of having tailor made schemes. The tailor made schemes make the economy better as they are available at the doorsteps of individuals who need them (Benton, 2011). Good examples include Express Loan, Yellow Cap Scheme, RAAS Financing Scheme, Green Tractor Scheme and other many more tailor made schemes and these schemes result in a better growth of the economic sector of the country. The financial institutions also offer development and support services to the economy of a country (Sera, 2005). The different financial institutions provide development and support services in the form of grants and loans that they give to various agencies. These agencies then use the loans and grants to promote and develop industries such as associations. The other areas that receive much of support from these agencies include rural industrialization, up-gradation of technology, human resource development and the marketing and promotion sector of the economy. Another role of the financial institutions to the economy is the provision of the Micro Finance Credits. Financial institutions such as Tameer Micro Finance, Khushhali Bank and First Micro Finance Bank provide micro finances to the poor economic sectors of the country. They provide a wide range of both financial and non-financial support including grants, equity, loans and support for institution building (Sloman, Hinde and Garratt). These services have by a large extent improved the growth and strength of the economy of various different countries. These poor sectors especially in the third world countries usually have a very high population and with the help of Micro Finance, a lot of people are reached easily and this boosts the economy of such countries by a great deal. Financial Institutions have also played a major role in the introduction and development of other more institutions in the economy. The financial institutions especially the banking institutions have played a very important role in the economy when it comes to catering for the financial needs of upcoming or developing institutions (Benton, 2011). Most institutions have approached financial institutions during their initial periods for funds for development and operation and without the financial institutions most of these institutions would have collapsed in their early stages. Banks have been very helpful especially to high-end investors because of the large amount of money sums that they are capable of providing. These big money sums have been used for very big projects such as the development of infrastructure such as long kilometer tarmac roads and in building of major industries such as the pipelines and railways. Middle sectors of the economy also need credits in order to develop and so are the low sectors of the economy such as in India and Pakistan. The banks and other financial institutions have made the development of institutions in all the sectors of the possible through the application of their various financial instruments (Frank, 2003). Another role played by the financial institutions in the economy of various countries is the mopping up of savings for both individuals and other companies and institutions. Banks and other financial institutions mop up small savings from individual and from other companies. In return for saving, the individuals and the companies receive interests from the bank, which is usually a percentage of the saved amount and is added to their savings monthly. This way the individuals or companies are able to not only keep their money safely but also receive an extra amount at the end of the saving period. The interest is usually of an agreed percentage between the bank or the financial institution and the individual or the company that is saving the money (Sloman, Hinde and Garratt). The savings can also be in terms of recurring deposits or time deposits depending on what suits the individual or the company better. An individual or a company can also be able to save by investing in the stock market or in the mutual funds. These two work as savings as the individual or company retains his/her actual amount and in the process also receive a certain percentage of the profits made in the stock market or by the mutual funds. Lastly though there could be many more roles played by financial institutions in an economy is that, the financial institutions provide financial services to households and also to individuals. According to the Heritage, 2015, households and individuals need funds for their day-to-day operations and in their operations they create both intractable and commercial impacts on the economy. Certain activities such as shopping for food and clothing create commercial impacts but they are hard to predict or explain which make them intractable. The money that each individual spends on different sectors of the economy if all put together for everyone in one particular economy has very significant effects on that particular economy (The Heritage, 2015). Either way, there is need for finance which means the households will contact financial institutions for help from time to time such as house loans, life assurance, vehicle and house insurance, health cover and many more financial needs. Conclusion Financial Institutions such as Banks, Insurance Companies, Credit Unions, Cash Management Trusts, Money Market Corporations and the many more financial institutions play many different major roles in the development of the economy (Benton, 2011). A good example is the World Bank, which has funded several major projects all across the world, and the SME bank, which has been a major contributor to small-scale businesses. These financial institutions have provided both financial and non-financial services to the economy that have contributed majorly on the introduction and development many different institutions and industries responsible for the daily economic growths. Therefore despite the recent crisis that have been seen in the financial sectors, financial institutions play major roles in contributing positively to the economic growth of any country (Jonathan, 2014). Work Cited Reserve Bank of Australia. 2014. Main Types of Financial Institutions. Retrieved from www.rba.gov.au/fin-stability/fin-inst/ Finance. Maps of World. 2013. Types of Financial Institutions. Retrieved from www.finance.mapsofworld.com/financial-institutions/types.html Sera Rose Gondwe. 2005. The Role of Financial Institutions in Economic Development of Malawi: Commercial Banks Perspective. Sloman, Hinde and Garratt. Economics for Business Jonathan Krishner. 2014. The Global Financial Crisis. Retrieved from www.forbes.com/sites/jonathankirshner/2014/11/08/the-global-financial-crisis-a-turning-point Frank J. Fabozzi. 2003. The Handbook of Financial Instruments. World Bank. 2014. Topics in Development. Financial Crisis. Retrieved from www.worldbank.org/financialcrisis Benton E. Gup. 2011. Banking and Financial Institutions. The Heritage. 2015. Financial Freedom. Retrieved from www.heritage.org/index/financial-freedom Sunil Parameswaran. 2011. Fundamentals of Financial Instruments. Read More