What do financial institutions primarily do in financial intermediation?

Financial institutions primarily serve as a link between savers and borrowers in the process of financial intermediation. This role is essential in the economy because it facilitates the flow of funds from individuals or entities that have surplus funds (savers) to those who require funds for various purposes (borrowers).

Through this intermediation, financial institutions such as banks, credit unions, and investment firms pool resources from savers and then allocate these funds to borrowers, often after evaluating their creditworthiness. This process not only helps individual savers earn interest on their deposits but also provides borrowers with the necessary funds to invest in projects, purchase homes, or finance education, thereby promoting economic growth.

In this context, creating new money is not the primary function of financial intermediation; rather, it typically involves the efficient allocation of existing funds. Furthermore, financial institutions do not eliminate the need for investments; rather, they enhance the ability of borrowers to make investments by providing access to capital. Even though financial institutions may have some influence over government spending through various financial mechanisms, regulation of government spending is not their primary function. Overall, the critical role of financial institutions is to bridge the gap between those who have capital to save and those who need capital to borrow.