Which of the following statements best explains the role of banks as financial intermediaries in relation to transaction costs?

• A. Banks only affect transaction costs for large corporations, not individuals.
• B. Banks increase transaction costs by adding more steps to the lending process.
• C. Banks reduce transaction costs by facilitating exchanges between savers and borrowers.
• D. Banks have no effect on transaction costs in the financial system.

Answer: (C)

Verified step by step guidance

1. Understand the concept of financial intermediaries: Banks act as financial intermediaries by connecting savers (those who have excess funds) with borrowers (those who need funds).
2. Define transaction costs: These are the costs associated with making an economic exchange, such as searching for a trading partner, negotiating terms, and enforcing contracts.
3. Analyze how banks reduce transaction costs: Banks pool resources from many savers, assess credit risk, and provide standardized contracts, which simplifies and lowers the costs of lending and borrowing.
4. Consider the impact on different participants: By reducing the effort and cost needed to find and evaluate counterparties, banks make financial transactions more efficient for both individuals and corporations.
5. Conclude that banks do not increase transaction costs; instead, they reduce them by facilitating exchanges, making the statement 'Banks reduce transaction costs by facilitating exchanges between savers and borrowers' the best explanation.