Page 336 - Encyclopedia of Business and Finance

eobf_F 7/5/06 3:02 PM Page 313

Financial Institutions

Savings and loan associations, mutual savings banks INVESTMENT, PENSION, AND RISK
and credit unions, and money market mutual funds are MANAGEMENT
other deposit-taking institutions. Savings and loan associ- Investment companies pool together funds and invest in
ations take savings deposits and primarily make mortgage the market to achieve goals set for various types of invest-
loans throughout the country. They have provided funds ments, matching liquidity, maturity, return, risk, tax, and
to create millions of housing units in the country. Their other preferences of investors on the one hand and users
key function is maturity intermediation when they accept of funds on the other. Investment companies are organ-
short-term deposits and make long-term mortgage loans. ized as open-end or closed-end mutual funds. Open-end
Mutual savings banks exist mainly in the eastern part of funds accept new investments and redeem old ones, while
the United States. Like savings and loan associations, they, closed-end funds accept funds at one time and then do
too, accept short-maturity deposits and make long-term not take in new funds. Investment companies have
mortgage loans. They also issue consumer and other become very popular with investors, and thus they have
loans, making them somewhat more diversified, and mobilized trillions of dollars.
therefore their loan portfolio is less risky in terms of loan Another type of company is investment banks, which
defaults. Credit unions specialize in member savings and provide investment and fund-raising advice to potential
loans, although they also make mortgage-type loans and users of funds, such as commercial, industrial, and finan-
other investments similar to other deposit-taking institu- cial companies. They also create venture capital funds or
tions. companies. Some of them also have brokerage and dealer-
ships in securities. Many of them underwrite securities
and then place them in the market or sell them to
FINANCE AND INSURANCE
investors.
INSTITUTIONS
Pension funds in the private and the government sec-
Finance (credit) companies are different from deposit- tors collect pension contributions and invest them accord-
taking banking institutions in that their sources of funds
ing to goals of the employees for their funds. Increasingly,
are not deposits. They acquire funds in the market by issu-
employees are able to indicate their personal preferences
ing their own obligations, such as notes and bonds. They for risk and reward targets with respect to their own and
make loans, however, on the other side of the balance sometimes their employers’ contributions.
sheet in full competition with deposit-taking and other
Other institutions that are significant participants in
types of financial institutions, such as insurance compa-
the U.S. financial system are the stock, bond, commodity,
nies. Finance companies specialize in business inventory
currency, futures, and options exchanges. The various
financing, although they also make consumer loans,
types of exchanges make possible not only creation and
mostly indirectly through manufacturers and distributors ownership of financial claims but also management of liq-
of goods and services. Some of the finance companies are uidity and risk of price changes and other risks in under-
huge and operate in domestic as well as foreign markets. lying commodities in the market. They greatly expand
Several are bigger than most of the commercial banks in investment opportunities for savers and access to funds by
the United States. small, medium, and large business enterprises. They have
Insurance companies provide the dual services of deepened and broadened markets in financial products
insurance protection and investment. There are two types and services, helped manage price risk, and improved allo-
of insurance companies: life insurance companies and cation efficiency in financial markets where every attribute
casualty and property insurance companies. Insurance desired in a financial product has a counterparty with
companies’ sources of funds are primarily policy premi- which to trade. The banking and investment intermedi-
ums. Their uses of funds range from loans (thus compet- aries have extended their services to the global saver-
ing with finance companies, commercial banks, and investor with the cross-border flow of funds and trading of
savings and loan associations) to creation of investment financial products facilitated by cross-border investing,
products (thus competing with investment companies). listing, and trading of securities in home and foreign mar-
Life insurance companies match their certain mortality- kets in home and foreign currencies.
based needs for cash outflows with longer-term riskier
investments such as stocks and bonds. Casualty and prop- HISTORICAL DEVELOPMENT OF
erty insurance companies have more uncertainty of cash THE U.S. FINANCIAL SYSTEM
outflows and their timing. Therefore they have more con- Specialization and division of labor, identified as sources
servative investment policies in terms of maturity and of creativity and efficiency by Adam Smith, led to the cre-
credit risk of their investments in a diversified portfolio of ation of other specialized deposit-taking and investment-
assets. type financial institutions that began to meet the demand

ENCYCLOPEDIA OF BUSINESS AND FINANCE, SECOND EDITION 313