What is a financial system?

In simple words financial system can be described as exchange of money to and from investors and borrowers. Financial system is also referred as distribution of excess capital mobilised from some sectors of an economy to other needy sectors.  Money, credit and finance are media of exchange in financial system. Financial system is apparent in financial institutions, financial services, financial markets and the financial instruments that link depositors with investors and the borrowers.

Financial Institutions are those who conduct financial transactions such as investments, loans and deposits. Financial institutions allow the transfer the money from savers and investors to borrowers as intermediaries. Banks, NBFC, Mutual Funds, Insurance companies and other financial institutions are examples of financial institutions.

Financial services refer to the service sector that offers professional services like credit rating, venture capital financing, mutual funds, merchant banking, depository services, book building etc. Asset Management and Liability management companies, portfolio managers are examples of financial service providers.

Financial market is the place where commodities, securities, and other items that are traded according to general supply and demand. Financial market includes primary market and secondary markets. Primary market is where the investors buy new stock and bonds first time. Usually that sale takes place in the form of initial public offer. Once the initial sale is complete, further trading of instruments that have been previously bought is conducted on the secondary market.

Equity shares, debentures and bonds are examples of financial instruments. Financial instruments include loans, deposits and securities. Derivative instruments are also financial instruments that are dependent on underlying asset’s performance.