Chapter2ProblemSet - ECO349 2010 Winter Chapter 2 Problem...

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ECO349 – 2010 Winter Chapter 2 Problem Set Michael Ho 1/3 1(a). What is indirect finance? What major role do financial intermediaries play? Funds can move from lenders to borrowers through indirect finance when it involves a financial intermediary that stands between the lender-savers and the borrower-spenders and helps transfer funds from one to the other. Financial intermediation is the primary route for moving funds from lenders to borrowers in which financial intermediaries are a far more important source of financing for corporation than securities markets are. 1(b). What are transaction costs in finance? Why financial intermediaries have comparative advantages in transaction costs? Transaction costs – time and money spent in carrying out financial transactions (could be a major problem for individuals who have excess funds to lend with respect to drafting contractual agreement, screening and monitoring of borrowers). Financial intermediaries can substantially reduce transaction costs because they have developed expertise in lowering costs and because their large size allows them to take advantage of economies of scale when the transaction costs per dollar of transactions drops as the size of transactions increases (e.g. contracts can be used over and over again in its loan transactions). 1(c). What benefits can financial intermediaries offer with low transaction costs? A financial intermediary’s low transaction costs mean that it can provide its customers with liquidity services (depositors can earn interest on both chequing and saving accounts and yet still convert them into goods and services whenever necessary). Low transaction costs of financial institutions enable them to help reduce the exposure of
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This note was uploaded on 10/05/2010 for the course ECO 349 taught by Professor H during the Fall '09 term at University of Toronto- Toronto.

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Chapter2ProblemSet - ECO349 2010 Winter Chapter 2 Problem...

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