All participants in capital markets are asking how to finance investments or to invest money available. The answer to these questions depends on the situation you have: deficit or surplus capital. This article addresses issues concerning the place and role of capital market within the financial markets and in financing investments, trying to highlight the growing importance of this subsystem, shown both to economic agents and to all categories of investors.capital market, stock exchange, investment, economic development

Alin Marius Andries

English

Research Papers in Economics

 
   C CE ES S   W Wo or rk ki in ng g   P Pa ap pe er rs s, ,   I I, ,   ( (2 2) ), ,   2 20 00 09 9  69 
THE IMPORTANCE OF CAPITAL MARKET IN ECONOMY 
 
Alin Marius Andrieş 
"Alexandru Ioan Cuza” University of Iaşi 
 
  Abstract: All participants in capital markets are asking how to finance investments or to invest 
money available. The answer to these questions depends on the situation you have: deficit or surplus capital. 
This article addresses issues concerning the place and role of capital market within the financial markets 
and in financing investments, trying to highlight the growing importance of this subsystem, shown both to 
economic agents and to all categories of investors. 
 
  Keywords: capital market, stock exchange, investment, economic development  
  JEL Classification: O42, E44, G11, G14, E22 
 
 
1.  INTRODUCTION 
 
  It is very difficult today to imagine ourselves the times when there were no banks, stock 
markets, money markets, public debts, times when the fortune of a person was only measured by 
the surface of land owned, by the number of animals one possessed as well as by the number of 
work hands one could use in the working the field. Economies presented themselves in the form of 
gold or silver goblets or jewels, and usury – the practice consisting of the charging of interest on 
money – was prohibited both by law and by the Church.  
  The capital market today is a reality met in any modern economy. It is a market the 
necessity of which is unchallengeable, an extremely dynamic and innovative structure, permanently 
adapting to the economic environment and at the same time an influential factor of it, generating 
opportunities and to the same extent risk for all categories of participants to the economic activity, 
being a replica of a national economy to a small scale, but nevertheless especially representative. 
  Tributary to the conditions in which it was formed and developed, the capital market 
brings together under this syntagma different conceptions. The continental-European conception 
attributes to this market a more comprising structure, containing the monetary market, the mortgage 
market and the financial market. In the Anglo-Saxon conception, which the economic practice has 
also adopted in our country, the capital market is a component of the financial market together with 
the monetary market and the insurance market. 
  
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2.  CAPITAL MARKETS COMPONENTS AND FUNCTION 
 
  The specificity of this market derives from numerous aspects, but defining and at the 
same time delimitative in relation to other components of the financial market are the following 
traits:  
 It is a market specialized in transactions with medium and long term financial assets, 
unlike the monetary market which offers solutions for refinancing through short and 
medium term capitals; 
 It is a public, open and transparent market, in the sense that anyone can be a participant 
on this market, without there being notable entry or exit barriers, the transactions having 
a public character; 
 The dissemination of information on this market, through its volume or, quickness and 
with the possibility of equal reception by all participants, is probably the best one from 
the ones existing in the structures of a market economy; 
 The  capital  circulation  vehicle  is  represented  by  securities,  characterized  through 
negotiability of the price and immediate transferability with very low transaction costs; 
 The transaction  is made through intermediaries, who have an essential role in connecting 
the owners or issuers of securities with the owners of capitals; 
 It  entails  risks  both  for  the  issuer  and  for  the  investor,  specific  for  each  financial 
instrument  in  question,  but  at  the  same  time  it  also  offers  complex  solutions  for 
minimizing and dispersing it, both the financial and the operational one; 
 It is an organized market, in the sense that the transactions are performed according to 
certain principles, norms and rules known and accepted by participants. This does not 
mean the administration of the market, but its regulation with the purpose of creating or 
preserving  the  conditions  for  the  unfolding  of  free  competition,  so  a  system  for 
guaranteeing the free and open character of all transactions. 
 
  In a market economy, the role of the capital market is of first rate. The well functioning of 
the capital market is vital in the contemporary economy in order to be able to perform an efficient 
transfer of money resources from those who save towards those who need capital and those who 
succeed to offer it a higher capitalization; the capital market can significantly influence the quality 
of the investment decisions. 
  Depending  on  the  moment  when  the  transaction  is  performed,  the  capital  market  is 
divided into two temporal dependant segments: primary and secondary.  
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  The  primary  market  has  the  role  of  placing  the  issuing  of  securities,  to  attract  the 
available financial capitals on medium and long term, both on the internal capital markets, and on 
the international one appealing to the public economies. 
  The secondary market – once the securities are set into circulation, through the issuance 
on the primary market, they are the object of transactions on the secondary market. The existence of 
this type of market offers to the owners of shares and bonds the possibility to capitalize them before 
they bring a profit (dividends or interests). The secondary market represents, at the same time, the 
way to concentrate in the same place private or institutional investors who can sell or buy securities, 
having the guarantee that they are valuable and can be reinserted into the circuit at any time.  
  The  secondary  market  is  also  the  almost  perfect  expression  of  the  free  adjustment 
between the offer and demand of securities, being a barometer, in the first place for the need for 
capital, but also for the economic, social and political state of a country. From this point of view, 
the secondary capital market can be considered a perfect market, where the law of demand and offer 
finds the perfect terrain for its unfenced action. Ensuring the mobility of capitals, of liquidities on 
long and medium term, of the negotiability of any security that passes the primary market, the 
secondary market attracts, at the same time, professional investors, but also amateur investors, in 
the hope of a maximum profit in record time. 
  The stock exchange is an important institution of the capital market, specific to the market 
economy, which concentrates in the same geographical and economic space the demand and offer 
of securities, openly, freely and permanently negotiated, based on known regulations. The stock 
exchanges always represent an extremely sensitive and accurate barometer of the status quo in the 
economic, geo-political and foreign currency field. The price a security is negotiated for accurately 
reflects the economic-financial state of the company that issued it, in a positive or negative sense. 
Most times, because of the interdependencies in a national economy, but also at world level, the 
modification  of  the  rate  of  a  certain  security  can  attract  with  it  chain  modifications,  with 
repercussions on other securities. It is true that, sometimes, the stock exchange can register false 
signals  (incidental  or  directed),  disturbing  the  real  situation.  The  psychological  and  emotional 
factors have always had and will continue to have a notable role. 
  A question the enterprisers and the smaller or larger companies always ask themselves is: 
Which is the optimum way for financing investments? The answers are not many and along time 
they were the same: either using the own fortune, either requesting a subsidy from the state or from 
another institution or from anywhere else, or obtaining a bank loan or turning to the stock market. 
The first option is only possible for those who own the necessary capital. The second option is 
determined by exceptional situations. In regard to the bank loan, although it is a more realistic  
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option than the other two, it is maybe not the most wanted one, first because it is expensive (the 
interests are, in general, quite high) and, second, the banks set a series of hard and strict conditions, 
often difficult to meet by the applicant. 
  A possibility, for an enterpriser or for a company, to obtain money (capital), avoiding the 
problems raised by the options above, is represented by the public sale of shares or bonds with the 
help of the  stock exchange. The  stock exchange ensures the  shortest and  most efficient circuit 
between the economies or temporary surplus of capital of those who want to invest on medium or 
long term (be it companies, funds, banks, insurance companies or plain private individuals) and the 
needs  for  financing  of  the  enterprisers  or  of  the  commercial  companies.  The  stock  exchange 
becomes thus a strong competitor for the banks, representing a serious alternative to the bank loan, 
often times more expensive and difficult to obtain. 
  From the above  it  is clearly  noted that the  main role of the  stock markets  is that of 
financing the economy (especially the economic agents), by mobilizing capitals on medium and 
long term. Also, another important role of the stock exchange is that it facilitates the circulation of 
capitals, the securities being easily transformed into liquidities or exchanged into other securities, 
by selling or re-selling them on this market. 
  The  most  important  function  of  the  stock  exchange  is  that  the  transactions  with  the 
securities issued and initially placed on the primary capital market are performed here. After the 
securities have been issued and placed with the investors, they can be freely transacted on the stock 
exchange  because  of  their  negotiable  character,  thus  guaranteeing  the  investor  that  he  can 
recuperate the placed money funds, of course for the value they have on that date on the market. 
  Also,  the  stock  exchange  is  the  place  and  instrument  for  some  important  sector 
reorganizing and restructurings. On the stock markets a redistributing of the financings within the 
economy takes place: the financial funds are oriented towards more lucrative or perspective fields, 
because an investor can very easily sell here the securities he no longer considers to be a very good 
placement and invest in a sector he considers more attractive. 
  Another interesting aspect is that of the acquiring of companies and of mergers on the 
stock market, which are increasingly frequent. The stock exchange facilitates these operations and 
the main instrument through which the tender offer is performed. The tender offer is the operation 
performed  through  a  intermediation  company  through  which  an  investor  announces  that  he  is 
willing to buy partially or all the shares on the market of a commercial company he is interested on, 
for a firm price and within a well defined period of time. This is how most takeovers, transfers and 
mergers take place on the stock market.   
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  On  the  stock  exchange  the  sell-buy  price  for  the  quoted  securities  is  permanently 
established and displayed. The stock market offers systematic information concerning the rate of the 
quoted securities and, implicitly, information on the listed companies and even on the respective 
economy on the whole. In this sense an important indicator is the stock exchange capitalization of a 
listed company, which shows the market value of that company: it is calculated by multiplying the 
total number of shares of that company with their market rate. In order to evaluate the dimensions 
of a stock market the total stock exchange capitalization can also be calculated by adding all the 
stock exchange values (stock exchange capitalizations) of the companies listed on those markets.  
  Finally,  the  stock  exchange  reflects  especially  accurately  the  overall  situation  of  an 
economy, as well as its trends and perspectives. Especially useful for this purpose is the studying of 
the  stock  exchange  indexes,  calculated  as  an  average  of  the  evolutions  and  of  the  volume  of 
transactions for a representative sample of shares or for their totality, on each stock exchange in 
part. 
  The collection of the temporary available capitals in the economy, the reallocation of 
those insufficient of inefficiently capitalized at a certain point and even the favoring of some sector 
restructurings,  are  meant  to  outline  the  place  presently  occupied  by  the  capital  market  in  the 
economy of many countries, not only the most developed ones. 
  The observation that in the developing countries the same attention must be granted to the 
starting  and  developing  of  an  efficient  financial  market  is  well-founded,  just  as  much  as  the 
preoccupations for developing the infrastructure of telecommunications. This is more important in 
the transition countries, considering the necessity to reorient resources from the inefficient sectors 
towards  to  efficient  ones,  thus  ensuring  the  increase  of  efficiency  in  economy,  supporting  the 
economic reform process and even the privatization actions. 
 
3.  CONCLUSIONS 
 
  The importance of the financial market is given by the significant role it plays  in the 
finances (financing) of the enterprises and of the state, by the percentage the direct financing has 
among  the  methods  for  financing.  Beyond  what  is  apparently  important  -  the  high  volume  of 
transactions on the stock market - what really counts is the place the (primary) market holds in the 
development first of the stock companies (direct financing), and this is sometimes forgotten, or 
appears secondary. The well functioning of the financial market is a strong fundament for ensuring 
a lasting growth, on the long term, of the national economy; the financial market and firstly the  
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capital market represent in many countries – and could also represent in Romania – the engine for 
economic development. 
  If to a certain extent they can be replaced as financing sources, it must not be understood 
that financing through the banking system and financing through the capital market are perfectly 
replaceable, but rather complementary. In most cases, the issuing of shares or bonds tend to sooner 
supplement,  than  replace  the  bank  loans,  especially  when  the  allocation  of  some  important 
resources is wanted  for sustaining some  large  investment plans, when a  farther horizon  for the 
maturity of the loan is sought, or even obtaining non-refundable funds for the price of dilution of 
capital and future dividends. 
  More and more issuers turn to financing instruments which not until long ago seemed too 
sophisticated, and the “theoretical” advantages of the listing on the stock exchange start to be the 
put into practice. The ability of the capital market to mobilize important financial resources now is 
no longer doubted and any company listed on the stock exchange will also consider from now on 
the issuing of bonds or shares among its financing options. 
  The Romanian capital market is ready both for the financing of companies and for the use 
of some  sophisticated  methods  for forming the  subscription price, and through the  behavior of 
investors recently, it seems keen for new securities. This does not mean it can absorb the entire 
necessary of financing of the Romanian economy or that it can handle debt/equity financing ratios 
such as those  from the developed capital  markets, but nor can  it be said that  it does not offer 
sufficient liquidity or that the risk of the volatility of prices in the case of some public offers is 
alarming. Moreover, the current moment is an especially favorable one for the unfolding of this 
financing  process  for  businesses,  process  also  propelled  by  an  overall  economic  conjuncture 
favorable  for  investments,  through  a  stock  market  found  under  the  sign  of  the  bull,  through  a 
penetration in Romania of important foreign capital funds that seek placements as profitable as 
possible.   
 
 
  REFERENCES 
 
Caporale, G.; Howells, P., Soliman, A. (2004), Stock market development and economic grotwh: 
the causal linkage, Journal of Economic Development, vol. 29, no. 1. 
Levine,  R.  (1997),  Stock  Markets,  Economic  Development,  and  Capital  Control  Liberalization, 
Perspective  -  Investment  Company  Institute,  vol.  3,  no.  5,  at 
http://www.ici.org/perspective/per03-05.pdf.  
   C CE ES S   W Wo or rk ki in ng g   P Pa ap pe er rs s, ,   I I, ,   ( (2 2) ), ,   2 20 00 09 9  75 
Popa, I. (1995), Bursa, Adevărul, Bucureşti. 
Stoica, O. (2005), Pieţe financiare europene, University course “Alexandru Ioan Cuza”, University 
of Iaşi. 
 
 
   

Pieţe financiare europene,

Stock market development and economic grotwh: the causal linkage,

Stock Markets, Economic Development, and Capital Control Liberalization, Perspective -

Wo or rk ki in ng g P Pa ap pe er rs s,

THE IMPORTANCE OF CAPITAL MARKET IN ECONOMY

http://cse.uaic.ro/WorkingPapers/articles/CESWP2009_I2_AND.pdf

THE IMPORTANCE OF CAPITAL MARKET IN ECONOMY

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