Homework Question on How Financial Markets Improve Economic Efficiency
- Your answer should be in the limit of 3 paragraphs that demonstrate your understanding for :
- How financial markets improve economic efficiency, in brief?
Homework Answer on How Financial Markets Improve Economic Efficiency
Financial markets entail trade in foreign exchange, bonds and stock markets. These markets are critical for growth of an economy because they mobilize savings and make it possible to build up capital thus enabling investment in physical as well as human capital. In addition, through financial markets, savings are channeled to more industrious investments after analyzing the markets. Thus, financial markets act as an instrument for creating wealth, by forming an efficient system for dealings in long-term investments, for the benefit of individuals, corporation, governments, and financial institutions. How do the various markets promote economic growth?
Firstly, in the stock markets, individuals invest in equities by buying shares issued by corporations. After buying the shares, the investor owns part of the company due to the contribution of capital. Thus, the investor can be given a share of profits made in form of dividends, proportional to shareholding value. Alternatively, the dividends can be issued as additional shares. Also, the investor is at liberty to sell shares for capital gain in the stock market. Therefore, investment in shares amounts to wealth creation for the investor.
The government can also borrow capital from the public or corporations through issuance of treasury bonds or note for long-term investments projects. Such capital can be used to improve infrastructure and other public amenities that facilitate operations for national wealth creation. Companies also issue bonds to fund large projects like the construction of new plants, expansion of existing plants. The investor in return receives the agreed interest on the debt security.