Financial Markets
Why Study Financial Markets?
Why Study Financial Markets?
• Financial markets channel funds from
savers to investors, thereby, promoting
economic efficiency.
• Financial markets also affect personal
wealth and the behavior of business firms.
Overview of the Financial System
INDIRECT FINANCE
FUNDS
Financial
Intermediaries
FUNDS
FUNDS
Lenders-Savers
Households
Businesses
Government
Foreigners
FUNDS
FUNDS
Financial
Markets
DIRECT FINANCE
Borrowers-Spenders
Businesses
Government
Households
Foreigners
Functions of the Financial
System
• The financial system
– Allows transfers of funds from a person or a
business without investment opportunities to
one who has them.
– Improves economic efficiency.
Classification of Financial
Markets
• Debt markets
– Short-term (maturity < 1 year) Money Market
• U.S. Treasury bills, negotiable bank certificates of
deposit (large denomination), commercial paper, etc.
– Long-term (maturity > 10 years) Capital
Market
• Residential mortgages, corporate bonds, U.S.
government securities, State and local bonds, bank
commercial loans, etc.
• Equity markets
– Long-term------Corporate stocks
Classification of Financial
Markets
• Primary market
– New security issues sold to initial buyers.
• Secondary market
– Securities previously issued bought and sold.
• Exchanges
– Trades conducted in central locations.
• Over-the-counter markets
– Dealers at different locations buy and sell.
Internationalization of Financial
Markets
• International Bond Market
– Foreign bonds
– Eurobonds
• Bond denominated in a currency other than the one
of the country in which it is sold.
– Eurocurrencies
• Foreign currencies deposited in banks outside the
home country.
• World Stock Markets
Some Regulatory Agencies
• Securities and Exchange Commission
– Requires disclosure of information, restricts insider
trading
• Office of the Comptroller of the Currency
– Charters and examines the books of federally chartered
commercial banks and imposes restrictions on the
assets they can hold.
• Federal Reserve
– Examines the books of commercial banks that are
members of the system, sets reserve requirements.
• State Banking and Insurance Commissions
– Charter and examine books of state chartered firms.
Regulation of Financial Markets
• Three Main Reasons for Regulation:
– Increase information to investors
• SEC forces corporations to disclose information.
– Decrease adverse selection and moral hazard problems.
– Ensure the soundness of financial
intermediaries
• Chartering, reporting requirements, restrictions on
assets and activities, deposit insurance
– Prevents financial panics
– Improve monetary control