Financial Markets and Istitutions, Sintesi del corso di Economia Finanziaria

Scarica Financial Markets and Istitutions e più Sintesi del corso in PDF di Economia Finanziaria solo su Docsity! lOMoARcPSD|26858109 F. S. Mishkin, S. Eakins, Financial Markets and Istitutions lOMoARcPSD|26858109 CH. 1-2: Overview of the Financial System Financial markets: DEBT MARKETS (bonds, mortgages): EQUITY MARKETS (stock shares): FOREIGN EXCHANGE MARKET: Due date (short-intermediate-long term) no due date --- No ownership claim ownership and claim on earnings (+ voting rights) --- Increase debt (+ mandatory interest payments) no increase in debt (+dividend payment can be reduced or suspended) --- Less risky: • Less volatile (transactions are fixed) • Repaid first (since they’re debts) in case of trouble Riskier: • More volatile (depend on performance) • Shareholders are residual claimants (i.e. get paid after debts are covered) --- Debt markets are the drivers of INTEREST RATES Equity markets have an impact on the VOLUME OF PRODUCTION Determines the EXCHANGE RATE among currencies ( PURCHASING POWER, IMPORTS) Function of financial markets: • Financial markets channel funds, thus allowing an efficient allocation of capital (wealth, financial and physical, that can be employed to produce more wealth); • Capital moves from the ones with money but no productive investment opportunities to those who lack the first but have the latter, either through direct or indirect financing: lender-saver borrower-spender • When efficient, improve well-being by allowing consumers to time their purchases Segments of financial markets: a. Direct finance (directly from finmark; use of financial instruments) b. Indirect finance (intermediaries; use of financial instruments) Structure of financial markets: • Debt markets vs. Equity markets (see comparison table) lOMoARcPSD|26858109 a. Life insurance companies (premiums corporate bonds, mortgages, stocks up to a certain quantity) b. Fire and casualty insurance companies (major losses if disasters happen invest in more liquid assets, s.a. municipal bonds, corporate bonds and stocks, U.S. government securities) c. Pension funds and government retirement funds (funds are collected through contributions by employers and employees corporate bonds and stock) 3. Investment intermediaries: a. Finance companies: sell commercial papers (short-term debt), issue stock and bonds to privates and small businesses b. Mutual funds: sell shares (redeemable anytime; the value of which depend on mutual funds’ securities and are risky!) investments aimed at diversifying the portfolio; c. Money market mutual funds: advise on what securities to issue; then purchase securities and sell them on the market (they get a lot of fees when helping with mergers) Regulations of financial markets: Government intervenes on the financial market to: 1- Increase the level of information: few or no information can lead to adverse selection, keeping investors away from the market; Securities and Exchange Commission (SEC): disclose info about sales, assets, earnings + limitation to insider trading (i.e. trading made by the major shareholders, the insiders, who have access to sensitive info) 2- Ensure soundness of the intermediaries: asymmetrical information can lead to “financial panic”: when unsure about the health of intermediaries, depositors are willing to withdraw their funds from sound and unsound institutions. 6 regulations: 1. Restrictions on entry 2. Disclosure (and inspections) 3. Restriction on assets and activities 4. Deposit insurance by government 5. Limits on competition 6. Restrictions on interest rate (to be paid on deposits) 4 lOMoARcPSD|26858109 i i CH. 4: Why do Interest Rates Change? Assets: they are pieces of property storing value. Investing on one asset over another may depend on: - Wealth (=total resources owned): increase in wealth increase in demand for assets - Expected return, compared to alternatives; given multiple states of nature, the expected return is the weighted average of returns x probability of that return to happen; - Risk (=uncertainty associated to the return): measure for the risk is the standard deviation of possible outcomes w.r.t. expected return, i.e.: σ =∑ √ p (R −Re )2 The greater the σ, the riskier the investment: behaviour of investors towards risk is merely personal (risk-lover vs. risk-adverse); generally, holding everything else constant, an increase to relative risk decreases the demand of the asset. - Liquidity (=how fast and easily the asset can be turned into cash); holding everything else constant, the more liquid the asset the more desirable it is, and the greater the demand for it. Demand and supply for bonds For any kind of bond, it is possible to draw a graph with demand and supply curves (x-axis: quantity; y-axis: bond price). The interest rate, or yield, of each zero-coupon 1-year bond can be found through this equation: R e= F −P P Interest rates are negatively related to prices: investors are more willing to purchase low-price & high-interest securities; on the contrary, they’ll be willing to dispose of high-price & low-interest ones. C is the point in which Bd=Bs; the price associated to it is called the market equilibrium OR market optimum OR market- clearing price. the corresponding interest rate is called market- clearing interest rate. P>P* excess supply P<P* excess demand lOMoARcPSD|26858109 Movements along the curves happen when a change in the bond price or interest rate occurs; Shifts instead are only due to exogenous changes; Shifts in demand: 1. Wealth↑ demand ↑ (more money available more investments) 2. Expected returns ↑ demand ↓ (if buying tomorrow provides higher rates, you wait) 3. Expected inflation ↑ demand ↓ (the real interest rate is adjusted by inflation + level of prices will be higher) 4. Risk ↑ demand ↓ (relative to other financial instruments) 5. Liquidity ↑ demand↑ (relative to other financial instrument) Shifts in supply: 1. Profitability of investments ↑ supply↑ (in investments are profitable, more will be willing to borrow money) 2. Expected inflation ↑ supply ↑ (inflation reduces the real cost of borrowing, i.e. the real interest rate) 3. Government deficit↑ supply ↑ (bonds are issued to finance the government in case of deficit, i.e. expenditures>revenues, supply will increase; reverse happens for surplus) Remarks: FISHER EFFECT: nominal interest rates are proportional to inflation increase in inflation = increase in nominal interest rate = lower price! CYCLE EXPANSION: expansion means the amount of goods and services produced increase 1. national income increases general wealth increases bond demand increases 2. business will be more willing to borrow AND sell bonds bond supply increases interest rates generally increase in expansions and decrease in recessions. 6