Financial institutions as a business entities

Banks and other financial institutions are business entities since they are companies, enterprises, or firms that are legally recognized and are designed to provide mainly financial services to customers and earn profits in exchange for work and acceptance of risk.

The financial institutions are grouped into the bank and non-bank financial institution, which consists of the central bank, deposit money bank, merchant bank, insurance companies, etc.

What is a financial institution

A financial institution is an intermediary, which provides financial services to the public or society.

Another financial institution definition is that they act as a channel between lenders or borrowers of funds in a given society.

They are bank and nonbank institutions.

The head it controller of the financial institutions in a country is the central bank, though not all countries do have a central bank.

Types of financial institutions

We have two major types of financial institutions, and they are banks and nonbank.

In the bank, we have the central bank, deposit money bank or you can also call it the commercial bank, merchant bank, microfinance bank.

Then in the nonbank financial institutions, we have the finance companies, bureau de change, pension fund, insurance companies, and discount houses.

All these I’ve already discussed on this post, and it will help you a lot especially if you are a finance student.

Banking Institutions 

Financial institution definition

I will start from the number one and the head of all financial institutions in a given country, and that is the central bank.

1. The Central Bank 

The central bank is the apex bank. It supervises and regulates financial institutions including commercial banks.

The central bank is in charge of the management of the country’s money’s supply.

Not only that, but they are also in charge of the issuance of the legal tender currency.

They help in the promotion of monetary stability and sound financial structure in a country.

The central bank also helps to maintain the relationship with international economic and financial institutions and helps in the promotion of money and capital markets.

There are lots of functions and benefits derived from the central bank, but let’s leave it here and don’t go further.

2. Deposit Money Bank 

You can call it the deposit money bank or preferably the Commercial Bank, they are just the same.

A commercial bank is a business entity, established for profit, and owned by shareholders.

They are the nation’s most important financial institution as they are unique in the performance of their services.

They are distinguished from other bank forms of financial institutions or intermediaries because of the following characteristics.

  1. Commercial banks hold the nation’s money supply.
  2. They are the only financial intermediaries whose demand deposit circulates as money.
  3. Their lending can create additional bank deposits through redeposit of the money by the borrower.
  4. They have the sole power to create money through this monetization of debt or through a promise to pay IOU, and also the power to destroy money.

There are tons of functions of the commercial bank to the society, and I’ve listed some below.

The commercial bank keeps the deposit of their customers and gives them back when demanded. They provide both domestic and international banking services to customers.

They render monthly, quarterly, and yearly returns to the central bank. They also grant loans and overdrafts to the customers.

They provide advisory services to those in need of such services. Commercial banks engage in funds transfer on behalf of their clients.

They help to facilitate foreign exchange transactions for their customers.

3. The Merchant Banks 

This is another bank financial institution we have, the are the wholesale bankers.

They accept large deposits from corporate clients and manage such deposits on behalf of their owners.

You can say that the merchant banks are indeed the commercial bank customers, as they do not operate the retail accounts.

A good example of the merchant banks includes the treasury bills, treasury certificate, bankers unit funds, commercial papers, Certificates of deposit, etc.

A good function of the merchant bank is that they act as advisory services to the corporate clients.

4. The Micro Finance Bank 

The microfinance bank is not all over the world, but countries like Nigeria, South Africa, and other 3rd world countries have the microfinance bank.

You can also call it the community bank, and its purpose is to help to make financial services accessible to the large segment of the potentially productive populated country.

Its functions include helps to transform the economy to the benefit of the poor who are in majority.

The microfinance bank helps to make small loans available to the poor masses, and to mobilize those small deposits that the commercial bank neglect.

Next is to look at the nonbank financial institution we have today.

Nonbank Financial Institutions 

The nonbank financial institutions we have today are; the finance companies, credit taken companies, the discount houses, the stockbrokers, pension and provident fund managers, issuing houses, bureau de change, investment trust.

Others also include Unit trust, insurance brokers insurance companies, credit rating agencies, underwriters, depository and custodian of securities, portfolio managers, and investment advisers.

But I’m really sorry as I won’t go on to talk all of them on this post, but rather I’ve selected the common ones among them.

1. The Finance Companies

The finance companies are usually licensed by the central bank, and they must register with the corporate affairs commission as a limited company.

They are being regulated by the central bank to ensure that their activities are sound without the public suffering in their hands.

Some of the functions of the finance companies include;

Borrowing of money from the public by way of deposit placement, and lending out beyond the ceiling limit imposed on the central bank.

They handle project financing such s local purchased order (LPO) financing. They are involved in estate development.

The finance companies embark on leasing activities and offer consultancy services to the public.

2. Pension Funds 

The pension funds are a means of providing for the financial needs of an employee by his employer at retirement.

This is so that the employee could live a normal life till death.

However, to achieve this, or retirement or a pension scheme is initiated to accumulate funds from where financial benefits are paid depending on the following factors;

  1. Length of service
  2. Annual salary during active service
  3. Size of fund
  4. Specific agreement between the employer and the employee

A pension fund may be contributory or noncontributory, the national social insurance scheme is contributory.

3. Insurance Companies 

Another non-bank financial institution we have is the insurance companies, and it is worldwide.

Insurance is a risk mechanism, wherein the prosper (the insured) agrees to make small periodic payments called premium to another person (the insurer) in return for the payment of a larger sum (benefit) on the occurrence of a specified event.

You can say that insurance is the savings vehicle that has been developed to provide for the raining days in our lives, no matter when or how often they occur.

Some of the functions of the insurance companies include;

It is the handmaiden of commerce and industry. That is to say that insurance provides an opportunity for commercial progress by accepting the burden of the risk that surrounds it.

Insurance tends to bring a closer approach to optimum allocation of the factors of production by eliminating one the barriers to the establishment of a given business.

It encourages competition. One of the influences that interferes with the smooth functioning of competition is imperfect knowledge.

In so far as insurance eliminates the uncertainty of financial losses resulting from a given set of causes.

Insurance decreases the chances of loss. The insurance companies do not like paying heavy losses.

However, if they know that a particular element has been responsible for heavy losses, they will do everything humanly possible to eliminate that element.

Another important value of insurance is its indemnity function.

Many families and business units are able to continue intact after a loss because the loss is offset in full or at least in part by insurance funds.

Last but not least is that insurance is used as the basis for the credit system, and insurance companies play an active role in the field of finance.

4. Discount Houses

Discount houses are intermediaries acting between the central bank and other members of the financial institutions.

They provide discounting and rediscounting facilities on money market instruments like treasury bills, treasury certificates, and short-dated government development bonds.

The discount houses provide lending of the second last resort facilities to licensed banks, while the central bank, in turn, would act as lender of last resort to the discount houses.

They purchase and sell short term securities from and to the financial institutions.

The discount houses provide discounting and rediscounting facilities to the money market. They also help to facilitate liquidity and portfolio regulations of financial institutions on daily basis.

The discount houses facilitate the transmission of monetary policy regulations more easily to the rest of the economy.

The discount houses provide a secondary market for government and money market securities. Insurance companies play an active role in the field of finance.

Their influence has been greatly felt in the investment and financial markets of the world.

These are the list of financial institutions that we have, and by now I know that you’ve known the difference between a bank and-bank financial institution.

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