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Fine-tuning the Financial Market
The stock exchange reduces economic corruption though restricting governmental
ownership as well as large-scale economic ownership.
Today,
most economists are unanimous that one of the most important differences
between developing and developed economies is that financial markets of
developed countries are more advanced than developing countries.
They
argue that an efficient financial market can boost the capacity of loan
recipients and, in turn make the economy more efficient through increasing
investment in production. In fact, an advanced stock market would increase
deposits and provide enough capital for active corporations, which would
ultimately lead to increased economic growth. Capital markets provide
investors with considerable resources at a low cost while distributing
liquidity investment risks among investors.
In
contrast, inefficiencies of financial markets would curb attraction of
capitals and reining liquidity. This will culminate in development of
underground economy, increased inflation, and killing job opportunities by
obliterating suitable opportunities for economic activities. Before focusing
on the relationship between the capital market and economic growth, we must
come up with a clear definition of financial markets. The market is basically
a mechanism through which transactions on goods, services and financial
property are carried out between suppliers and demanders. Therefore, market
might consist of a telecommunications network rather than a specific place.
Therefore, a financial market could be defined as a mechanism through which
sums of money are transferred from depositors to demanders. The motivation
behind the transfer is access to liquidity because cash suppliers are people
who can delay making use of their money in return for a profit that would make
up for replacing present use with future use as well as taking the
accompanying risk. In return, demander of cash would be ready to undertake
that cost to hasten use of money.
Financial
markets are divided into monetary and capital markets. Monetary market
supplies short-term cash to corporations as well as their circulating capital,
while capital market is a market for long-term transactions and covers
monetary claims that would be due in more than a year.
Due to
key importance of the stock exchange as the main component of the capital
market, we focus on the effective relation between stock exchange and its role
in economic development. The positive effects of stock exchange on economic
development could be summarized as follows:
Reducing Investment Risk:
One of
the most important factors in regards to investment is the level of risk; that
is to what extent individuals are ready to take risks. Since lack of
transparency in the capital market, supply and demand of stocks and existing
laws increase risk, it can greatly affect investments. However, if
transparency is accepted as an indispensable component of stock exchange,
investment risk could be reduced to an acceptable level and this would
increase investments and decrease cost of access to investment that would, in
turn, lead to increased economic production and growth.
Pricing Risk at Stock Exchange:
Obviously, the more the investment risk, the more should be its return to
encourage investment. Therefore, people’s willingness to take risks would be
directly related to capital return. Stock market increases people’s trust and,
as a result, encourages investments by pricing the existing risk in various
sectors in view of their output.
Possibility of Merging Risks:
Since investing in any economic unit entails specific risks, the bourse makes
it possible to keep a balanced combination of stocks and avail of a specific
profit through investing in various stocks with various risk rates.
Facilitating Liquidity Risk:
The
liquidity is the ability to turn assets into purchasing power at an agreed
price and liquidity risk would mean lack of trust in converting assets to a
medium for transactions. Therefore, information asymmetry and exchange costs
will decrease liquidity and increase risks. The relation between liquidity and
economic development is that projects with high return would need capital
commitments in the long run while depositors are not interested to leave their
deposits for a long time. Therefore, if the financial system did not increase
liquidity of long-term investments, no remarkable investment would be made in
projects with high return. The vital role of liquidity in production
efficiency has been upheld by history. Hicks (1969) believed that inventions
of new technology did not lead to the industrial revolution in England because
most of them had been accomplished many years earlier. However, inefficiency
of financial markets in increasing liquidity stymied projects that needed high
capital because investors were not willing to make long-term investments since
their deposits in the capital market could not be converted to cash.
Reducing Cost of Access to Information for Investment:
Since
depositors lack enough time, capacity and tools for gathering and processing
information related to corporations, directors and economic conditions, they
would pursue activities on which reliable information would be available.
Therefore, high cost of acquiring information would curb attraction of capital
currents. For example, if a corporation considered a fixed cost for acquiring
information on production technology, everybody that would need that
information would have to pay that cost. While if they acted as a group, the
costs would be divided among them. Therefore, economization of information
acquisition process on existing investment opportunities would lead to better
allocation of capital resources.
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If the stock market were not efficient, the corporations would have to
suffice to their own resources for investments. |
Here, the
role of stock markets is gathering information and reflecting them through
prices. Therefore, even those who have not gone through the costly process of
evaluating corporations and directors and conditions in the stock market,
could have access to stock prices that reflect information gathered by others.
Performance of Stock Exchange Based on Complete Competition Model:
By providing all conditions necessary for a competitive market, the stock
exchange has paved the way for determination of stock prices in a competitive
manner. Therefore, allocation of resources would be carried out in an
efficient and optimal manner.
If the
stock market were not efficient, the corporations would have to suffice to
their own resources for investments. This would have led to different final
outputs in various sectors and, as a result the goals of optimal allocation of
resources would not have been realized. On the opposite, if performance of
bourse were optimal, the final output would be nearly equal in all sectors and
the capital would be allocated in an optimal manner.
Facilitating Exchange:
Bourse
leads to better division of labor and higher economic efficiency and growth by
reducing exchange costs, on the one hand, and speeding up transactions, on the
other hand.
Reducing Supervision Costs:
By identifying economic sectors with a low output, the stock market will
reduce investments in those sectors while increasing investments in
high-output sectors and profitable corporations. At the same time, group
supervision will decrease costs of supervision.
If a
borrower intended to take the money from many investors outside the
corporation, all people outside the corporation should have to pay the cost of
supervision while those costs would be reduced to a minimum due to presence of
financial intermediaries because the borrowing corporation would only be run
by intermediaries and not all investors.
Financing:
One of the most important roles played by the stock exchange is financing
including financing private institutes or the government. Governments embark
on selling bonds through the stock market to make up for their budget
deficits. If investments needed for the first and second development plans had
been supplied through presenting bonds, it would have considerably reduced
financial burden on the government as well as the budget deficit. The
government would also have been capable of increasing efficiency of
investments by supervising recruited capitals and managing developmental
projects. On the other hand, private institutes could acquire their needed
capital for the inauguration and development of economic corporations.
Contributing to Economic Balance:
Another important function of the bourse along with other financial markets is
creating balance in the national economy. The stock market makes the current
of financial resources proportionate to economic activities. Lack of this
proportion would lead to such crises as incompatibility of production and
liquidity volume, budget deficit for the government or deficit in foreign
payments balance that would be ensued by inflation and stagnation.
People’s Participation:
Establishment of an efficient capital market will lead to the expansion of
public ownership, equitable wealth distribution; increasing public trust as
well as establishing a sense of public participation in the society that
collectively alleviate pressures born by the government.
Reducing Economic Corruption:
The stock exchange reduces economic corruption though restricting governmental
ownership as well as large-scale economic ownership. As a result, it would
reduce the size of underground economy that would be ensued by increase in the
tax base, increased revenues and reduced budget deficit. Economic corruption
will also lead to capital flight.
A close
look at statistics and information would show that the overall performance of
the stock exchange has been quite unsatisfactory. In other words, the market
had lacked adequate efficiency. An efficient capital market is one that
provides capital for those who use it at the lowest price. If a market failed
to do so, investing in it would not be profitable. Therefore, wondering
capitals would find their way into traditional, low-output and sometimes even
underground channels instead of working as a driving force behind productive
economic activities. One of the most important reasons for the inefficiency of
Iran’s capital is the economic problems plaguing its economic system. In fact,
the capital market reacts inefficiently to its environment. For example,
underdevelopment of the private sector or the government’s interference in
economic affairs has left untoward effects.
Here we
will point out some problems plaguing Iran’s capital market:
1. Vastness of the Governmental Sector:
The most important obstacle to activities of the stock market in Iran is the
enormity of governmental activities and the state-run sector. A number of the
most important impediments to development of the stock market in Iran include:
A) The
process of allocating capital resources is affected by financial institutions,
banks, insurance firms and so on, which are controlled by the government in a
state-run economy both in terms of ownership and policymaking. This will
weaken the capital and stock market.
B)
Experience has shown that total liberalization of stock prices in Iran will
lead to spuriously high prices due to shortage in supply and hike in demand.
Therefore, Iran’s stock exchange market would be forced to take direct action
for controlling stocks prices. Shortage of stock supply is also a result of
state control over many economic corporations (selling stocks through
Privatization Organization is a current example in this regard).
C)
Expanded economic activities by the government will lead to lack of economic
and legal security because the private sector would speculate that if it
endangered the state-run sector’s interests, the latter would act to protect
its interests through changing laws and regulations. The result of this sense
of insecurity would be flight of domestic capitals as well as reduction in
foreign investments.
2. Inefficient Tax System:
Inefficiency of the tax system will increase profitability of brokerage
sectors. As a result, capitals will be pushed toward brokerage activities
regardless of the added value of the economic sectors. Since mobilized
resources in the stock exchange would be poured into productive activities,
profitability of unproductive activities and brokerage will direct those
resources away from the stock market.
3. Inefficient Laws and Regulations:
Laws and regulations governing the Iranian stock exchange were drawn up four
decades ago while new conditions governing capital markets and modern systems
of financial markets require a change in those regulations.
4. Dependence of Bourse on the Monetary Market:
The stock exchange in our country is a subsidiary to the Central Bank of Iran.
Therefore, the Central Bank has sometimes used it as a tool to realize its
interests. This issue has hampered growth in the stock market.
5. Unequal Competition between Stock Market and the Banking System:
Banking system has been the most important pillar of the capital market in the
country through supplying long-term financial resources and financing
governmental projects.
Unfortunately, bank deposits yield much higher profits than stocks while
lacking any kind of risks too and its liquidity is one hundred percent. On the
opposite, due to very low speed of transactions at the stock exchange, the
degree of liquidity there is much lower. It is obvious that the monetary
market would overtake the capital market in such an uneven competition.
6. Absence of Competition Conditions:
As was stated before, a feature of the stock market is competition, which is
lacking in the Iranian stock market for certain reasons. Firstly, there is no
transparency in access to accurate information and, secondly, the price is not
determined according to market mechanisms. It must be noted that the price
control system used in the stock market, would redirect investment motivations
toward those fields that lack economic priority. It was noted before that
enforcing a liberalized pricing system in the Iranian bourse has not produced
favorable results and had led to the emergence of spurious prices, which is a
result of low supply of stocks as a result of excessive governmental control.
The above
facts are only part of the obstacles on the way of developing the capital
market in the country. Attention to the following points can work to develop
stock market activities and pave the way for taking advantage of economic
profits:
1)
Playing a more active role on the part of the Privatization Organization to
downsize the government and ceding state-run banks to the private sector as
well as preventing an outward change in management of state-run corporations
under the guise of privatization;
2)
Revising all related laws and regulations to pave the way for development of
the private sector including:
A)
Amending tax law in such a way as to curb unproductive and brokerage
activities;
B)
Presenting an accurate interpretation of Article 42 of the Constitution to
attract foreign investments and clear the way for the presence of foreign
investors on the stock market;
C)
Reviewing those trade and labor laws as well as internal regulations of the
stock market that do not conform to conditions currently prevailing in the
market;
3.
Efforts in line with accurate information dissemination on the stock market;
4.
Efforts to strengthen economic stability and stabilizing laws and regulations;
5.
Detente in foreign relations;
6.
Planning to reduce control on prices and eliminate other controls and
unnecessary regulations.
It
conclusion, we must note that inattention to investment and low production
would be ensued with increased unemployment and widespread poverty, which
would in turn result in social crises and endanger national security. |
