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Advantages and Disadvantages of Financial Institutions

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  • Last Updated : 28 Jun, 2022

Financial Institutions refer to a business establishment that serves as a link between the savers and investors and helps them to channelize the funds into different investing options. Financial Institutions are the financial intermediaries that accept deposits from the general public (their savings) and allocate these savings in a variety of investment channels for the benefit of both the public and the organization. 

In simple terms, Financial Institutions are institutions that deal in all types of financial transactions, right from accepting deposits and granting a loan to the allocation of credit into various investment portfolios. These institutions are established by both the Central Government and the State Government to provide finance to the business organization and are also known as ‘development banks’. They provide both owned capital and borrowed capital for medium and long requirements to the business organizations. Besides these, the financial institutions also provide financial and technical assistance, conduct market surveys, and managerial services to members running an organization. 

Some examples of financial institutions are IFCI, IIFCL, EXIM Bank, SIDBI, etc. 

Advantages of Financial Institutions

  • Credit Creation: The existence of a financial institution is a kind of security that ensures that less money is left unused in an economy. This means that financial institutions are intermediaries between the savers and the borrowers. This process creates money out of money and boosts growth in an economy.
  • Provide Funds: Financial institution is a good source of medium and long-term finance. They provide both owned and borrowed capital to the organization.
  • Economic Development: Financial institution promotes economic development in an economy by way of funding all the development plans of government and private organizations.
  • Infrastructural Development: The establishment of financial institutions builds a strong banking base in an economy. Besides this, it offers all the financial services needed for the development and promotion of other infrastructures, like industries, roads, hospitals, educational institutions, etc. 
  • Promotes Regional Balances: Financial institution takes up their social responsibility to establish their units in backward areas to uplift these areas by educating and providing basic monetary services to people.  The financial institution aims to bring backward regions on equal footing with developed regions.
  • Employment Generation: Financial institution provides all necessary funding to build and develop industries and infrastructure in a country. This creates new employment opportunities for the available manpower.

Disadvantages of Financial Institutions

  • Complex Process: The process of granting loans by Financial Institutions is rigid and involves lots of paperwork. This makes the process time-consuming and expensive.
  • Restriction on the Borrower: The financial institutions have a right to have their nominee on the Board of Directors of the borrowing company, which restricts the power of the company. Besides this, they may directly interfere with the dividend distribution decision of the borrowing company.
  • System of Collateral Securities: Financial institutions are governed under strict rules of the Government, which requires them to grant loans only against some security. Due to this, sometimes deserving organisations fail to get financial assistance due to a lack of security.
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