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What is a 'Financial Intermediary'

A financial intermediary is an entity that acts as the middleman between two parties in a financial transaction, such as a commercial bank, investment banks, mutual funds and pension funds. Financial intermediaries offer a number of benefits to the average consumer, including safety, liquidity, and economies of scale involved in commercial banking, investment banking and asset management. Although in certain areas, such as investing, advances in technology threaten to eliminate the financial intermediary, disintermediation is much less of a threat in other areas of finance, including banking and insurance.

BREAKING DOWN 'Financial Intermediary'

A non-bank financial intermediary does not accept deposits from the general public. The intermediary may provide factoring, leasing, insurance plans or other financial services. Many intermediaries take part in securities exchanges and utilize long-term plans for managing and growing their funds. The overall economic stability of a country may be shown through the activities of financial intermediaries and growth of the financial services industry.

Functions of Financial Intermediaries

Financial intermediaries move funds from parties with excess capital to parties needing funds. The process creates efficient markets and lowers the cost of conducting business. For example, a financial advisor connects with clients through purchasing insurance, stocks, bonds, real estate and other assets. Banks connect borrowers and lenders by providing capital from other financial institutions and from the Federal Reserve. Insurance companies collect premiums for policies and provide policy benefits. A pension fund collects funds on behalf of members and distributes payments to pensioners.

Mutual Funds as Financial Intermediaries

Mutual funds provide active management of capital pooled by shareholders. The fund manager connects with shareholders through purchasing stock in companies he anticipates may outperform the market. By doing so, the manager provides shareholders with assets, companies with capital and the market with liquidity.

Example of a Financial Intermediary

In July 2016, the European Commission took on two new financial instruments for European Structural and Investment (ESI) fund investments. The goal was creating easier access to funding for startups and urban development project promoters. Loans, equity, guarantees and other financial instruments attract greater public and private funding sources that may be reinvested over many cycles as compared to receiving grants.

One of the instruments, a co-investment facility, provides funding for startups to develop their business models and attract additional financial support through a collective investment plan managed by one main financial intermediary. The European Commission projected the total public and private resource investment at approximately $16.5 million per small- and medium-sized enterprise.

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