Functions of Financial System

The financial system refers to the markets and financial intermediaries with the help of which the various financial assets, real assets and the financial risks are transferred from one entity to another and from one place to another. In very simple terms, a financial system allows money to flow from people who save to people who borrow.

There are six main purposes of the financial system:

  1. To save money for the future

  2. To borrow money for current use

  3. To raise equity capital

  4. To manage risks

  5. To exchange assets for immediate and future deliveries

  6. To trade on information

The financial system facilitates the following three functions:

  • Achieve the purposes for which people use the financial system (six purposes listed above).

  • Discover rates of return that equate aggregate savings with aggregate borrowings.

  • Allocate capital to the best uses.

In a well-functioning financial system, transaction costs are low, analysts can value savings and investments, and scarce capital resources are used well.

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