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    This essay uses two theories of financial intermediation to explain the existence and role of banks. In doing this, we critically discuss and compare the two theories to discuss and carefully contrast the main theories of financial intermediation in the context of transaction costs, liquidity insurance, information asymmetry, and financing sources for borrowers.

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    International Financial Services Case Study


    Key Learning Outcomes

    By the end of the case, students should be able to:
    • Critically analyse key elements of the main theories of financial intermediation 
    • Clearly discuss and carefully contrast the main theories of financial intermediation in the context of transaction costs,liquidity insurance, information asymmetry, and financing sources for borrowers.
    • Understand contemporary banking theory

     

    Use two theories of financial intermediation to explain the existence and role of banks. Critically discuss and compare the two theories. Refer to at least two journal papers in your coursework. 

    1.0 INTRODUCTION


    Banks have existed in many forms in many countries for many centuries initially involved in basic societal roles as taking and holding deposits for households and providing basic loans to economic agents in need of capital. As traders and merchants started to trade both locally and internationally, for example during the expansion of the different empires, insurance especially marine insurance became much sought after hence the emergency of banks such as Lloyds in England (Allen and Santomero 1997). Banks and other financial intermediaries began to offer such financial services, becoming the main source of external funds to firms. For instance, between 1970 and 1985, financial intermediaries were the main source of more than 50% of external funding in the UK, United States, Japan, Germany, and France (Diamond 1996). 

    In this essay, we will use two theories, financial intermediation theory and the theory of risk management to explain the existence and role of banks. In doing this, we will critically discuss theories of financial intermediation in the context of transaction costs, information asymmetry, liquidity insurance and other elements of financial intermediation.

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