Role of Financial Markets in the Economy

What is Financial Markets in the Economy Role-Frequently Asked Questions-Role of Financial Markets in the Economy

The financial system comprises markets, tools, and institutions, often simply referred to as ‘the financial system. Today, let’s discuss how the banking system structure impacts economic growth. In this particular situation, I think the answer is “yes.” A country’s financial system influences its economic growth rate through international comparisons and sector-specific studies on sector and firm-level statistics. Even though there are big differences, I think that the performance of the economy is directly related to the performance of the banking system. But economists still have different ideas about what causes the positive relationship between advanced banking systems and economic growth. Read on to learn more about role of financial markets in the economy and become the subject matter expert on it.

People who are short on cash can get extra money through direct market lending or indirect bank borrowing. In 1858, former British Prime Minister William Gladstone said, “Finance is, so to speak, the stomach of the nation,” from which “all the other organs take tone.”

Role of Financial Markets in the Economy

But securities markets don’t always have enough liquidity, and many businesses can’t use securities markets to meet their liquidity needs because they have high fixed costs. Small and medium-sized businesses are especially affected by this. Bank financing bridges market information gaps, enabling funding for projects that can’t access direct market investment. This gap, which cause by not having the same amount of information, can close by banks because they are good at evaluating business projects and keeping track of their progress. The role of financial markets in the economy include:


Because of the financial system, people and businesses have the chance to save money that would otherwise loss. Since the 16th century, when the first banks were set up in Italy, their main job has been to accept savings and keep them in a safe place. People can get interest on their money, which is also called the “savings rate.” Regular savings ensure stable income for spending or investing.

Market for Equities

Initial public offerings (IPOs) of stocks, which also call “shares” in some situations, make by companies on the market that need more money to grow. Even though “a share of a company is a share of a company for the life of the company,” buyers may choose to trade their shares to get back their initial investment.

Europe didn’t get its first stock market until the early 1600s, which helped the economy get back on its feet. Stock markets made it possible for share prices to go up, which made capital returns possible. So, there are two ways for shareholders to make money from selling shares: first, through dividend payments that are tied to how much money a company makes, and second, through speculative gains that are tied to how much the value of traded shares goes up. There are a lot more gains from speculation.

Credit Creation

Credit “create” in the system when a deposit use to give a loan to an individual or company. Due to the credit multiplier that is in place, deposit takers can give out more money than they take in. When a bank has enough cash on hand, it can lend out a bigger portion of a deposit. This is because it expects that customers won’t take out more than 10% of their savings in cash at one time. This makes it easier for the bank to handle the danger that comes with the loan. This means that a new deposit of 100 pounds could lead to more than 100 pounds worth of funding.

Liquidity &Profitability

Liquidity is a good way to divide the different types of financial assets into groups. When figuring out how liquid an item is, think about how quickly and easily it can turn into cash.Other assets range from being very easy to turn into cash to being very hard to turn into cash. Cash, on the other hand, always keeps its full business potential. For example, customers with “on demand” deposits (also called “current accounts” and “checking accounts”) have instant access to their money in the form of cash, while customers with “time” deposits must give notice in advance. Because of this, people think that “on demand” deposits are more liquid than “time” accounts. Bills of exchange (both trade and government bills) are less liquid than other types of bills because they are only good for ninety days and can sell quickly before they expire.

Goods & Services

Many different goods, services, and resources can buy and sell on financial markets. Money is the most basic type of asset. It use as a medium of trade and makes it easier to buy other goods and services. If there was no money, people would have to use time-consuming and useless ways to trade goods and services, like bartering.

Price Stability

Central bankers have always tried to find a good mix between monetary policy, financial stability, and economic growth. On the other hand, recent events in the financial markets have brought this problem to the forefront of policy discussions. Because well-functioning financial markets are necessary for the efficient transmission of monetary signals, policymakers, especially those in central banking, put a high importance on the ongoing integration and growth of these markets.

Retail & Wholesale

Large businesses, the government, and financial institutions all buy financial assets and services on wholesale markets. In retail markets, people and small businesses can get banking services straight from banks. Capital markets use to talk about both trade and retail markets. Investment banks serve the wholesale part of the banking business, while high street banks serve the general public. There are many different kinds of financial institutions that do business with both people and businesses.

Currencies & Commodities

“Spot markets” are also called “on the spot” markets because they happen right away. If a customer goes to their bank in the morning to ask for a loan and signs the necessary paperwork, the bank may put the loan money into the customer’s account in the afternoon. On the other hand, transactions in many markets don’t end until an unknown time in the future. On the commodity market, a customer could talk about getting a certain amount of a product three months from now, even though they had already agreed to pay for it. Even though the shipping date won’t set until after the first contract sign, the price and amount will set at that time. Because of this, the person who currently has the contract can give the item to someone else before the planned delivery date.

Regulatory Framework

Even though a number of laws have been in the way for a long time, the European stock markets have grown a lot. The leaders of the European Union know that this problem needs to fix quickly. Alexandre Lamfalussy is in charge of the Committee of Wise Men, which just put out a study that points out a number of problems. The Committee wants to set up two new regulatory bodies for securities markets so that problems can fix more quickly. This will lead to a better harmonization of securities regulations and make it easier to adjust Community rules to the fast-changing financial markets. The idea came from the Committee.

Financial Market Integration

There are signs of merging in all parts of the monetary system, though to different degrees. There are many connections between the financial markets in the euro area. Vulnerable money market segments, including interbank and short-term derivatives markets, have been integrated for greater stability. Repo and stock markets face collateral issues despite growing integration. But it looks like there is a bright future ahead. In a similar way, there may be signs that the bond market in the Eurozone is getting better. The private bond markets in countries in the euro area have grown since the shared currency was put in place.


Why is the Financial Market Important to the Health of the Economy?

Financial markets drive competitiveness through tech and innovation amid rapid global change for today’s economies. Innovation is becoming an even more important growth success factor because of all of these things.

What is the Role of Financial Markets in the Wider Economy?

The way that financial markets work makes it easy for goods, services, and resources to buy and sell. Money is the most basic type of asset. It use as a medium of trade and makes it easier to buy other goods and services. Without money, people resort to time-consuming and inefficient methods such as bartering for trading goods and services.

How do Financial Markets Improve Economic Welfare?

Because financial markets have changed over time, end users can now better time their trades, which helps the economy as a whole. By making it easier for people to get credit, financial institutions make it easier for people to spend their money, urge people to save, and help the economy grow.


A financial system enables the transfer of money from those with surplus to those in need. This is one way to explain what a banking system is. This includes everything and everyone that has anything to do with managing the flow of money in a market. Banks facilitate money flow, aiding strong institutions and supporting struggling ones, crucial for the economy’s stability. We’ve explained this in the role of financial markets in the economy guide. I hope this information was useful to you. To understand more clearly about features of financial market, keep reading.

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