Saturday, April 18, 2009

key services provided by the financial system (5)

information The third service the financial system provides to savers and borrowers is to gather and communicate "information" or facts about borrowers and expectations about returns on financial assets.The first informational role the financial system plays is to gather information.That involves finding out about prospective borrowers and what they will do with borrowed funds.Obtaining such information would be costly and time-consuming for savers,who of course want all the facts before lending their money.
For example,if your neighbor comes to you for a loan,you may not have any information about whether he or she can repay it.When borrowers possess information about their opportunities or activities that they don,t disclose to lenders or creditors,a condition of "asymmetric information" exists.Sometimes financial arrangements have to be structured so that borrowers do not take advantage of asymmetric information at the expense of lenders.For example,if you borrow $10,000 to start a business,the lender will try to make sure that you don,t use the funds to take a trip around the world.Parts of the financial system specialize in information gathering and monitoring,and specialized arrangements exist for solving asymmetric information problems.

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