Financial institutions. Banking system.

A financial institution is understood as an institution that is engaged as its main activity in

money transmission, lending, investing and borrowing operations with the help of various
financial instruments.

The main purpose of a financial institution is to organize intermediation, i.e. the efficient
movement of money (directly or indirectly) from savers to borrowers. The former are,
figuratively speaking, the owners of a "bag of money", i.e. they are ready to transfer it for a
fee to a person experiencing financial hunger; the latter have a profitable investment project
in their portfolio, but do not have sufficient sources of financing for its implementation.

Financial institutions perform many functions, among them:

● saving of financial resources (saving);
● intermediation (intermediation);
● financial transformation (maturity transformation);
● risk transfer;
● organization of foreign exchange operations);
● liquidity assistance;
● organization of operations on changing organizational-legal forms of companies
(going public and going private transactions).

Let us briefly characterize their characterization.

Saving of financial resources.

The emergence of this function is predetermined by the widespread need to accumulate
funds for their subsequent use (targeted investment or consumption). Of course, it is
possible to accumulate funds without resorting to financial institutions, but it is less profitable
and unsafe.

Intermediation is, in fact, the main function of financial institutions and logically complements
the function of saving, because accumulating the saved funds and being forced to pay for
them, the financial institution should be concerned about their use, generating income, which
will be sufficient not only to pay the savers, but also to generate its own income. Thus, the
funds go from the saver to the borrower, and the actual process of transferring the funds is
accompanied by the emergence of obligations for their return and remuneration.

The financial intermediary, having received funds, issues in return an obligation to return
them under certain conditions; in turn, the received funds in a certain combination are
provided by the financial intermediary to a certain borrower also under the obligation to
return them with remuneration. Depending on the financial instruments used, the repayment
of funds may be mediated through capital market mechanisms.

Financial intermediation is beneficial for many reasons.

1. First, not all savers are financial specialists who understand the intricacies of loan
transactions.
 2. Secondly, even having certain knowledge in such operations, the saver, resorting to
the services of professionals, is freed from the need to search for a specific option of
investing funds, i.e. saves his own time and resources for his main business.
3. resources to engage in his main business.
4. Thirdly, the saver's money begins to "work", whereas otherwise it would be inactive.
5. Fourth, the saver earns income, essentially forcing the financial intermediary to make
efficient use of the funds he has received.
6. Fifth, intermediaries can be used to diversify, reduce or transfer risk to another
person.
7. Sixth, financial intermediaries can accumulate large amounts of cash and, once
concentrated, invest it in projects potentially unavailable to small investors or savers.

Financial transformation.
The meaning of this function is that short-term financial assets and liabilities can be
transformed into long-term ones. This is achieved, in particular, by securitization of assets,
when a credit institution collects the loans granted to them, secured by relatively
homogeneous property,
and issues securities against the common collateral. The reverse, known as "borrow short,
lend long," is also possible.
For example, a company needs an investment but cannot raise the required amount of cash
on a long-term basis. Then it makes "short" loans and invests them in a long-term project,
requiring periodic prolongation of the "short" loans, as well as confidence in the sufficiency of
current income to pay interest and principal of the "short" loan. Of course, there is a higher
risk of rising interest rates and some assurance that short-term funding sources will be
renewable.

Risk transfer.
The overwhelming majority of financial transactions are risky by nature, so there is always a
desire to either avoid risk or reduce its level.
This can be achieved in various ways, in particular, by obtaining guarantees and ensuring
the transfer of part of the risk to a financial intermediary, etc. The risk is transferred to a
financial intermediary.

Organization of currency operations.

In the modern economy the overwhelming majority of companies are connected to some
extent with currency operations. In a developed market economy these operations are
predetermined by the company's desire to enter the international markets of goods and
factors of production; in a developing economy there are other reasons for currency
operations - the desire to create joint ventures, to find a foreign investor, to open a foreign
representative office, to acquire new equipment from abroad, etc. The organization of
currency operations is carried out through financial institutions.
In the vast majority of cases, such transactions are formalized through financial institutions.
Facilitating liquidity.
Any company needs cash (in this case we are talking about cash on hand and in settlement
accounts), but how much of it there should be is a debatable issue. Since the current activity,
including in terms of
cash inflows and outflows, by definition cannot be rigidly predetermined, there is always a
problem of creating an insurance stock of cash that could be used when, for example, the
payables are due, but the money from the debtor, which the company was counting on, has
not arrived on the account. The simplest option of insurance against such a collision - the
formation of cash reserves - is not the most profitable, because money lying idle not only
does not bring income, but, on the contrary, leads to losses (for example, due to inflation).
Therefore, it is most reasonable to invest cash in highly liquid financial products offered by
financial institutions, such as stocks, short-term liabilities, etc.

Types of financial institutions

Banks, which are divided into:

● commercial - multifunctional, universal institutions functioning in various sectors of
the financial market;
● investment banks, related to capital accumulation, providing it on the market
through the issue and placement of various securities and providing servicing and
participation in issuing and founding activities of non-financial companies, long-term
lending;
● mortgage banks - banks engaged in operations aimed at attracting and allocating
resources related to real estate.

Non-bank financial institutions, including:

● Pawnshops - institutions whose activities are related to granting loans against the
pledge of movable property;
● Credit partnerships - associations established for credit and settlement services to
their members, which can be cooperatives, rental enterprises, small and
medium-sized businesses, and individuals. Their capital is formed through the
purchase of shares and payment of compulsory contribution by the participants.
When a participant leaves the partnership, he cannot return. The activity of credit
partnerships is connected with granting loans and carrying out commission and
intermediary operations;
● Credit unions - credit cooperatives established by groups of individuals or several
credit organizations;
● Mutual credit societies - a type of credit organizations, the participants of which can
be both individuals and legal entities. The capital of the society is formed from the
entrance fees of its members;
● Insurance societies - credit institutions, whose activities are related to the
realization of insurance policies, work with regular contributions of the population,
which are then placed in securities or mortgages for residential buildings. The
accumulation of large financial reserves in insurance companies is associated with
regular growth of premiums, interest income on bonds and dividends on shares
owned by insurance companies;
 ● Private pension funds - legally independent organizations managed by insurance
companies or trust departments of commercial banks, the resources of which are
formed on the basis of regular contributions of employees and contributions of firms
that formed the pension fund, as well as income on securities owned by the fund;
● Financial companies - credit institutions whose activity is connected with crediting
sales of consumer goods in installments and issuing consumer loans, the resources
of which are their own short-term liabilities placed on the market and bank loans.

Investment institutions, which are represented by:

● Investment companies and funds - a type of financial and credit institutions that
accumulate funds of private investors by issuing their own securities and placing
them in securities of other issuers;
● Stock exchange - an institutionally organized securities market operating on the
basis of centralized offers to buy and sell securities put out by stock exchanges.
Operates on the basis of centralized offers to buy and sell securities issued by stock
brokers on the instructions of institutional and individual investors;
● Investment dealers and brokers - persons conducting intermediary activities on the
stock market, purchasing securities in their own name and at their own expense for
the purpose of their subsequent placement among investors.

Banks
A bank is a special credit institution specializing in accumulating money and placing it in its
own name for profit.

The main purpose of a bank is to mediate the movement of money from lenders to
borrowers and payments. As a result, free cash is transformed into loan capital that earns
interest.

Working in the sphere of exchange, the bank regulates money circulation in cash and
non-cash forms.

The main functions of banks are:

● attracting (accumulating) monetary funds and turning them into loan capital;
stimulating savings in the national economy;
● intermediation of credit;
● intermediation in payments;
● creation of credit means of circulation;
● intermediation on the stock market (in securities transactions);
● provision of consulting, information and other services.

Banks do not just form their own resources, they provide internal accumulation of funds for
the development of the country's economy. Incentives for saving free funds of the population
and capital accumulation are provided by a flexible deposit policy of the bank in the
presence of favorable macroeconomic situations in the country.
The stimulating policy implies:
● establishment of attractive interest rates on deposits;
● high guarantees of safety of depositors' funds;
● a sufficiently high reliability rating of the bank and availability of information about its
activities;
● variety of deposit services

Credit intermediation is the most important function of a bank as a credit organization. It

ensures effective redistribution of financial resources in the national economy on the
principles of repayment, maturity and payment. Credit
operations are the main source of the bank's income.
Intermediation in payments is the initial and fundamental function of banks. In a market
economy, all economic entities, regardless of their form of ownership, have settlement
accounts in banks, with the help of which all non-cash settlements are made. Banks are
responsible for timely fulfillment of their clients' orders to make payments.

A concrete result of banking activity is a banking product.

A banking product is a special service provided by a bank to its customers and cash and
non-cash payment means issued by it. The specificity of the banking product consists in its
intangible content and its limitation to the sphere of money circulation.

There are two main types of banks in modern banking systems in developed countries:
● commercial;
● central banks.

The central bank and its functions

The functions of a central bank are summarized as follows:
● issuing money. This is one of the most important functions. Although in modern conditions
cash money is less important than non-cash money, the central bank's banknote issue
remains important because cash money is still needed for a large part of payments;
● holding the country's foreign exchange reserve;
● extending credit and performing settlement operations for government agencies;
● accumulating and holding cash reserves of commercial banks. Each bank is obliged to
keep on a reserve account with the central bank an amount in a certain proportion to the
amount of deposits;
● lending to commercial banks. Here we can draw such analogies. While firms,
organizations and individuals are lent by commercial banks, commercial banks are
customers for the central bank;
● regulating and supervising the activities of commercial banks and other credit institutions.
The central bank has the right to issue and revoke licenses of commercial banks;
● monetary regulation (jointly with the government).

Commercial banks
According to the nature of operations performed, universal and specialized commercial
banks are distinguished.

Universal banks perform a wide range of operations and services.

Universality means the type of banking activity, which is not limited by sectors of national
economy, composition of clients served, number of operations, regions.

Specialized commercial banks perform one or a small number of banking operations. They
include investment, mortgage, savings, innovation, insurance and other banks.

Investment banks conduct operations on issue and placement of securities on the stock
market, receiving income; they use their capital to lend to various enterprises and entire
industries.

Mortgage banks specialize in providing long-term loans secured by real estate.

Savings banks attract free monetary funds of the population, keep savings, carry out
non-cash settlements, provide loans to the population, carry out settlement and monetary
operations to serve the population, including operations with securities.

Innovation banks carry out lending at all stages and stages of the innovation process of
creation and implementation of various innovations and scientific and technical
developments.

Insurance banks attract money by selling insurance policies. They invest the income
received, first of all, in bonds and shares of other companies, government securities, and
also provide long-term loans to enterprises and the state.

At the present stage, there is a tendency towards universalization in the sphere of

commercial banks' activities, which is explained by the influence of competition. This is
expressed not only in the increase in the number of services offered to clients, but also in the
qualitative change in the structure of operations, increase in the volume of operations with
securities and decrease in the share of savings and loan operations.