Background of financial markets

Among many economic terms which have proved confusing are the financial markets, just because of their close relationship to casinos and other gambling ventures. However, the bitter truth is that financial markets are not in any way connected or functioning like gambling platforms. In their direct and simplest definition possible, financial markets which go by many names like wall street, capital markets or simply ”markets” refer to where traders sell and others buy different types of assets which include but not limited to bonds, stocks, derivatives, commodities and foreign exchange. In those markets, business organizations raise cash to grow and reduce risks while the investors make money out of their investments (Agbloyor et al, 2014, p.137).

Financial markets have been classified into different categories based on what is exchanged and how the operations are carried out. Among the main categories we have stock markets; a series of exchanges where corporations raise huge amounts of cash for expansion purposes. Stocks are basically ownership shares in a public corporation which are sold to the investors via broker deals. In this category of the financial market, investors realize profits when companies increase earnings. This kind of market has kept some of the great world economies like the U.S economy in a growing phase for a long time (Asekome and Agbonkhese, 2015, p.25). The progress and the working mechanism of stock markets have however proved to depend on the decisions and actions of both the sellers and the buyer’s perceptions based on the companies being traded on.

Bond markets are the second category of financial markets which are equally important just like their counterparts, stock markets. They exist in different types like corporate bonds, treasury bonds, and municipal bonds. Bond markets are markets where business organizations obtain huge loans hence providing liquidity to keep economies on a smooth run. Understanding the relationship between treasury bonds and Treasury bond yields forms the basis of understanding how financial markets impact the economy. For instance, when the value of treasury bonds declines, bond yields increase to compensate and that also translates to an increased mortgage interest rate (Bolton, Santos and Scheinkman, 2016, p.710). Worse of all, the decline in the value of Treasury bonds leads to a decline in the value of the dollar which triggers inflation within an economy as the import prices definitely increase. Treasury yields have also been used as predictors of the future of an economy; for instance, when the yield curve is inverted it heralds a recession.

Generally, most bonds are tradable in nature except for some like the savings bonds and to have a clear overview of bonds definition, it is important to understand that the issuance of bonds is mainly done by credit institutions, public authorities, supranational institutions, and other companies in primary markets. Also, the most common approach which is adopted in issuing bonds is the underwriting process. Through this process, two or more securities firm or banks which form syndicates purchase the bonds entirely from the issuer and later re-sell them to the investors (Benigno, Converse and Fornaro, 2015, p.60). The security firm involved in this transaction, therefore, takes the risk of inability to sell directly to the end investors. The primary issuance is normally arranged by the bookrunners who have direct connections with the investors and also act as the chief advisers to bond issuers in terms of pricing and timing of the bond issues. In contrast to the above process, government bonds are issued through the auction process, a process in which both the members from the public as well as banks bid for those bonds. In special cases, however, the market makers only may bid for bonds.

Categories of financial markets

Financial markets play different functions in the economy. They open and create regulated systems for business organizations to amass large amounts of capital especially through the two main types of markets, stock and bond markets. They also allow business to offset risks through foreign exchange futures, commodities, and other derivatives. Also, since the markets operate publicly, there is always an open and transparent approach in setting prices for all what is traded and knowledge is reflected about everything traded which reduce the high costs of getting information (Fligstein and Calder, 2015, p.10). The sheer size of financial markets also provides liquidity which makes it easy for sellers to unload their assets anytime they need to raise cash. Also, this size reduces the cost of operating business since business organizations need not go far in order to get buyers or willing sellers.  

Financial markets especially the stock markets affect the gross domestic product (GDP) of a country by primarily influencing the financial conditions as well as the consumer confidence. When the stock is in a bull market, for instance, the economy tends to be surrounded by a great deal of optimism and prospects of a number of stocks. The high valuation allows business organizations to take loans at cheaper rates hence allowing them to expand their operations, invest wisely in new projects as well as hiring more workers. These and other activities associated with stock markets collectively boost the GDP (Goldberg and Pavcnik, 2016, p.170). Additionally, customers in this environment spend money and make significant purchases like automobiles and houses especially when the stock prices are in the bull mode following the optimism they have about future prospects. Such confidence ends up spilling into increased spending and which leads to increased corporate earnings as well as sales hence boosting the GDP further.

Financial markets especially the stock markets have also shown their potential of harming the country’s GDP. For instance, when the stock prices decline, the GDP is negatively affected through the same channels outlined above; business organizations are forced to regulate their operational costs as well as workers by putting measures such as sacking some of their employees. Also, businesses find it a challenge to get new financing sources and their existing debt, therefore, becomes more onerous (Korinek and Sandri, 2016, p.30). Under these circumstances backed up with a pessimistic climate, it becomes unlikely for corporates to invest in new projects which negatively affect the GDP. When stock prices decline, consumer spending also follows the same trend because of the increased unemployment rates and the unpredictable future of the economy. Stockholders also lose part of the wealth invested in the stocks denting the consumer confidence. Again, this has negative impacts on the country’s GDP.

Financial markets are the aggregates of possible sellers and buyers of goods, financial securities, other fungible things and all the transactions that take place between them. Within the financial sector, a financial market refers to the market that is used to raise funds: the capital market for long-term finance and money market for short-term finance. Among the many functions of financial markets, the main one is the allocation of capital. Capital markets play a major role in raising capital while the money markets help in the transfer of liquidity, connecting people with capital to those who are in need of it. Financial markets draw funding from the investors and direct them to corporates that utilize it in financing their operational costs and hence achieving growth, from the start-up phase to their full potential (Korinek, 2018, p.70). Money markets enable firms to obtain funding on a short-term basis whereas capital markets enable them to have long-term funding which supports their expansion.

Functions of financial markets

The funds which are obtained from money markets mainly cater for general business operational costs, to cover the short periods of illiquidity but when corporates borrow from primary capital markets, the aim is mainly to invest in additional capital goods which enable them to boost their income. Financial capital funds are used by the entrepreneurs and business organizations to purchase what they require in the process of production and provision of services (Lin, Omoju and Okonkwo, 2015, p.1230). It usually takes a number of months or even years before capital investments begin to generate returns to pay back the costs and hence considered as a long-term investment. Long-term capital comes in form of mortgage loans, shared capital and venture capital among many other types.

Without the financial markets, it would be difficult for borrowers in finding lenders directly themselves. Other Intermediaries like banks and financial institutions help in the process. For instance, banks take deposits from people with money and save to lend to corporates which require and can utilize that money at interest. People are not aware that capital is usually provided by lenders because many lend the money indirectly, for example when money is put in a savings account or from pension contributions. Banks and other intermediaries then lend money from these pools of deposited money and then extend loans to those willing to borrow at interest (Maggiori, Neiman and Schreger, 2018). Other complex transactions, however, require markets where agents and lenders meet and where borrowing or lending commitments are sold to other parties. A good example is in the stock exchange platform where companies raise money by selling their own shares to potential investors while their existing shares, on the other hand, are bought or sold

Financial Markets comprises of commodity trading, securities exchange, and trade in respective derivatives. Banks are financial institutions which are distinguishable from financial markets because of their distinct roles which are complementary when it comes to economic growth agenda, their roles, however, serve as struts for economic sustenance. While banking sector and financial markets are significant predicates to economic growth, financial markets are the cornerstone, because they build up wealth from where savings increase and form sources of revenue for banks to utilize in redistribution of assets based on collateralized principles (Pinstrup-Andersen, 2015). In Nigeria where savings are almost nonexistent, financial markets are unorganized and unfeasible; the economy has been so shallow, implying that people spend more than they earn. Such an economy has proved to have no incentive for creativity, and business enterprises have been suffering from a lack of efficient system support. Consequently, the viability of the banking sector has been in a state of jeopardy. The unremitting banking reforms and recapitalization in Nigeria are good examples of how funding spring from extraneous sources.

The Nigerian banking sector has gone wholesale into financial products to substantiate the existence and supplement revenue sources when banking sectors in developed economies like the US continue to venture into savings as a lucrative source of capital and using value embellishments to encourage healthy competition. Although Nigerian strategy has increased its banking assets enormously, the approach has proved to be an economic aberration and hence has not been able to give a sustainable lift to this economy.

Impacts of financial markets on GDP

Empirically, Nigeria’s reliance on collateralized funding systems has proved to be ineffective when it comes to boosting the economic sufficiency and as a result, the system has yielded a very shallow economy in the country. Researchers have demonstrated this drawback repeatedly by coming up with a catalog of countries which operate banking products as their source of investment and others like the US which operate financial markets as their source of investment (Pilbeam, 2018). The results have always been incontrovertible because countries which derive their sources of financing from financial markets are mostly the developed countries, implying they have deep economies, while those that rely on banking for investments are mostly the third world countries like Nigeria, and have shallow economies.

In Nigeria, where savings are scanty and in some instances non-existent, banking funds are the major sources of investment and thus the economy has remained to be shallow. The purchasing power of naira is also low hence attesting to the shallowness of this economy. The infusion of the dollar into this economy has not also addressed the naira’s purchasing power problem, although it has given an impetus the subsidy way of importing, it has not addressed the issues of unemployment and living standards.

Stimulation of the local productivity within the Nigerian economy will entail more than just random policy thrusts; it requires structure, concertedness, an organization which ate lacking in Nigeria and therefore achieving stimulation on local productivity on random policy thrusts after the initial reluctance and deregulation has been overwhelmed by the demand forces. According to the economic theory, economic results respond to economic principles and therefore Nigeria’s approach to investing in consumer culture when its real problem lies in productivity cannot bear fruits.

There are numerous intermediaries and financial institutions that trade financial products in Nigeria without the essential market organization due to the absence of favorable structures and law because the wealth creation objective has been lost (Takayama, 2018). Wealth creation factor in financial markets of this country can be sustained by first enabling structures and effective regulations. Applying market instruments randomly or loosely assigning institutions to market operations will undermine confidence within the markets and prevent participation which translates to impaired wealth creation.

Financial market stimulation in Nigeria will play a major role in wealth creation and liquidity generation to help the country’s economy not only in supporting savings but in the proliferation of its capital sources within the market and facilitate the investment required in stimulating innovativeness and enterprises. Liquidity flow, enterprise, market close proximities and volatility control will all inure from the country’s structural and principled legal support which will pave a way for inherent mechanisms to come into play and guarantee investment fungibility (Takayama, 2018). And because investors consider such kinds of environments favorable Nigeria will have more to gain if it commits itself on establishing viable financial markets. This is because financial markets are pivotal in the resurgence of other sectors of the economy and will kick-start the country’s economy. With a viable Investment environment, the country will also attract meaningful foreign investments as well as local participation.

Capital allocation within domestic economy and international markets

Nigeria just like any other developing country has been on the receiving end of in the dawn of industrialization. This has come because most of the production methods have been abandoned and people began relocating from their local villages into big cities and towns where most of the industries are located in search of job opportunities. Some of the main challenges which Nigeria has faced due to this change include but not limited to environmental pollution, widening wealth gaps and social disadvantages (Pilbeam, 2018).

By far, environmental conditions which initially used to be regulated have been in the receiving end in the dawn of industrialization. This is because industrialized companies are rarely forced to pay for the damages they cause on environmental; industries have been emitting poisonous gases into the air which has been the major cause of air pollution in Nigeria (Pilbeam, 2018). Also, a lot of noise within the industrial zones has been causing noise pollution while dumping of wastes into major rivers which pass close to these zones cause water pollution. As a result, there have been many diseases which affect people as a result of pollution.

Industrialization typically facilitates rural to urban migration as local communities move into major cities and towns to search for jobs opportunities. As a result, the individuality factor of workers tends to be lost because of limited job satisfaction and the feeling of alienation elopes. Health issues also tend to emerge as a result of dangerous and poor working conditions or even the factors that arise as a result of poor working conditions like noise and dirt (Pilbeam, 2018). Rapid urbanization in Nigeria which has been brought by industrialization also leads to deterioration of employees’ quality of life and other problems in the society like crime and psychological disorders.

Financially, industrialization in Nigeria has resulted in wide gaps between the poor and rich due to the labor division and capital factors. The few people who own capital usually end up accumulating excessive profits which are derived from economic activities they engage in while those who can’t afford startup capital continue to be poor and hence resulting into a high income and wealth disparity between the two classes (Takayama, 2018).

In consideration to trade policies in Nigeria, its worthy to note that Nigerian governments have been using protectionist measures like exchange control and import restrictions to deal with oil dependencies and import problems for more than a decade now. However, their import substitution policies have been presaged by the economic crisis triggered by the collapsing of oil markets and significant decline in the country’s oil revenues which accounts for over70% of its total revenues (Pinstrup-Andersen, 2015).  Recently, Central Bank of Nigeria has followed this trodden protectionist approach to ban importers of more than 41 foreign products from entering the foreign exchange markets. This implies that the central bank will deny importation of those commodities, most of which are consumer goods. The impact of this policy has been the plummeting exchange rate of the country’s currency, which also saw the official rate drop by 20%. This policy has also seen the cost of those products go up because of their limited and restricted imports. This has been the case because manufacturers or distributors have been forced to pay more for those goods and hence transferring the burden on the side of consumers.

Conclusion

In summary, this paper has scrutinized the financial markets with the main focus on the Nigerian economy which has proved to lag behind in terms of financial markets. Compared to economies like the US economy, which has embraced the potentiality of financial markets has set it clear that financial markets are very important in the growth of an economy.  In regard to allocation of capital both domestically and internationally, financial markets have also proved to play a major role in balancing the flow of capital between the buyers and the sellers. Finally, the paper has revealed some of the challenges which have come along with the dawn of industrialization with consideration to the Nigerian economy. Among the major challenges which have been revealed touch on environmental pollution, financial and lastly on social life

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