Growing financial markets for socioeconomic development

Banks’ vital mandates and operating model provide loan finances to businesses and households. Banks are particularly well-placed to monitor their borrowers’ cash flows through the movements in the bank accounts of the people and corporates to whom they lend - somehow making it easier for the banks to identify and manage risks. In order to attract funds which they then on-lend to business and households, banks raise finance by: (i) taking and creating deposits; (ii) issuing other capital raising instruments (such as bonds and commercial papers); and (iii) increasing equity investment via retaining profits or issuance of new shares to their equity investors. By their prevalence, strategic and operating model, the banking aspect of financial markets is well-understood and used by many, compared to the other aspect of the financial market i.e. capital markets.

As for the capital markets... Much as the finances raised are long-term in nature (mobilised as they are from individuals and institutions who are not only savers, but also have investment motives), this entails an immediate degree of risk where funds are invested - but whose outcome depends on how well the business is governed and managed. There is also a relatively lesser degree of safety, as invested funds can either grow or decrease in value. On the positive side - especially on the savers/investors perspectives - capital markets provide a high degree of liquidity, particularly if the capital market is vibrant enough, and where resources (time and money) required to raise finances by the issuer and liquidate an asset are relatively minimal. There is an upside potential for savings and investment increment emanating from capital growth and dividend income. This sub-industry requires investment banks, stockbrokers and dealers, investment advisers, fund managers and custodian banks as essential intermediaries to facilitate its existence, and in enabling a vibrant market.

Savings can be transferred to investors, whether businesses or households, in several ways. Businesses can retain profits to reinvest rather than distributing them as dividends, they can sell new issues of shares or bonds directly to savers; or they can borrow from banks. Equity, bonds and bank finances are the essential building blocks of the methods companies use to finance themselves - although they be combined in a complex way. Several factors influence the form in which savings are transformed into investment, including tax treatment of different forms of saving and the willingness of different savers to take risk. But perhaps the most important concerns are the difficulty of assessing and monitoring the potential and actual profitability of investment projects. Equity finance (whether the sale of new shares or the retention of profits by companies) requires careful and continuously monitoring of a company’s activities. In contrast, one attraction of debt financing (whether bond or bank loan) as opposed to equity finance is that monitoring is required only when the borrower fails to make scheduled repayment.

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Growing financial markets for socioeconomic development

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