Bank oriented System, Market oriented System
Economic literature makes a distinction between so-called ‘bank-oriented’ systems in which financial institutions are the primary source of funding; and a’market-oriented’ model in which funds are raised predominantly via the securities markets. In the former, banks are in charge of transferring cash from depositors to borrowers, notably non-financial corporations. By executing this intermediation duty, banks constantly’monitor’ borrowers on behalf of deposit holders, a service that could not be performed individually by each deposit holder or lender.
In a market-oriented system, corporations are more likely to issue securities (stocks, bonds, etc.). Savers acquire these securities directly via distribution networks or institutions. However, the lack of any financial middleman changes the character of the security issued.
Although both types of finance exist in all jurisdictions, nations vary in terms of the relative importance of each model. Synthetic proxies for determining system bias include bank credit outstanding with the private sector and the market value of assets issued by private firms, such as equity shares and fixed income bonds and notes. These metrics are often assessed against a country’s GDP to simplify cross-country comparisons.
A comparison of such benchmarks indicates that the United States is the most market-oriented system, while banks dominate Europe’s financial systems. The European banking system, measured by asset volume or GDP weight, is roughly three times larger than the US system. In contrast, the ratio of listed securities’ market values over GDP in the United States is far larger. This may be ascribed in part to the fact that the US system is more suited to direct funding via markets.
Bank-based vs market-based economies.
In Japan, France, and Germany, where banks supply around 20% of corporate financing, it is known that banks are making substantial efforts to build a relationship banking culture, with long-term loans and favorable interest rates for customers with a ‘good past’. These economies are known as bank-based economies.
There are other nations where borrowing and lending take place via structured markets, such as the London Stock Exchange in the United Kingdom or the New York Stock Exchange in the United States. These are referred to as market-based economies. Although banks exist in these nations, they are extremely competitive, and the connection between lenders and borrowers is strictly restricted to the activities of issuing loans or accepting deposits, and loans are often issued on a short basis.
The struggle between the bank-based and market-based financial systems is losing ground as a result of globalization. The strong distinction between the two kinds of financial systems is gradually eroding, as banks become active participants in structured markets. Furthermore, banks are continually altering the way they operate as financial intermediaries, transitioning from the ‘brick and mortar’ idea of a bank to an almost entirely electronic presence.