Financial Agency

The financial position of an agent can be defined as the difference between its incomes and expenditures in a given time period. As someone’s income is simultaneously someone else’s expenditure, the aggregated financial position of all economic units is always zero ex post, which gives rise to perfect financial intermediation, i.e. deficits can be financed by surpluses completely. However, the preferences of surplus and deficit agents differ by more dimensions. The typical deficit agent is a private business who wants to fund investments in physical capital. The typical surplus agent is a household, who saves some part of its monthly income. Capital investments pay off expectedly in the long run, sometimes with non negligible risk of default. Households save for the short run, and they are typically risk-averse, i.e. they fear loosing even a tiny part of their savings. All these differences make it almost impossible to connect savers with investors directly.
The loanable funds theory states that financial intermediaries collect savings and fund investments thereby connecting surplus agents with deficit agents. It is easy to see, that there is a logical error in this claim if we want to apply it on the macroeconomic level. To fund deficit agents, the intermediaries – according to this theory – must collect the surpluses first. However, the surpluses are the results of excessive spending of deficit agents, who cannot spend until they borrowed these surpluses. The intermediary cannot lend something now that can be only collected later.