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Financial Markets
Financial Markets

A second area in which the impact of information technology has been profound is in financial markets. Financial markets encompass a wide variety of institutions and practices through which lenders and borrowers are able to interact. Lenders include banks and other financial institutions that make loans to individuals (e.g., for house or car purchases) and to institutions (e.g., for expansion or acquisitions).

These lenders are typically compensated through interest payments or, in some cases, an ownership stake in an enterprise. Individual investors who buy corporate stocks and bonds or government bonds are also lenders, and the companies and governments that sell the investors the stocks or the bonds are the borrowers.

The borrowers hope to use the money raised through these transactions for new equipment, new lines of business, or other productive purposes. The investor-lenders receive compensation for their investments through interest earnings, dividends, or an increase in the value of their stock or bond holdings.

Stock markets are perhaps the most familiar institutions in the financial marketplace, but a wide variety of other institutions and investment vehicles, or “instruments” are available to those hoping to earn or raise money. These include bond markets, foreign exchange markets and futures markets, among others. Each of these markets for financial markets has been impacted by the efficiency improvements from IT.

A combination of policy reforms and IT innovations has transformed financial markets over the past two decades. Governments around the world have modified, or eliminated, regulations that limited innovation and competition in their financial markets. They have also reduced barriers to foreign participation in their markets.

New IT developments have spurred innovation and international expansion in financial markets in three ways:

  • By permitting complex domestic and international transactions to be conducted rapidly and securely.
  • By enhancing data storage, analysis, and other data-dependent tasks associated with the management of financial institutions.
  • By giving market actors of all sizes access to a wide array of information on investment and borrowing opportunities, the performance of companies and financial institutions, economic trends, and policy developments.

Building upon policy reforms and technological developments, private financial firms have over the past two decades created numerous new vehicles, or “instruments,” through which people and institutions can lend, invest, or raise money. Reforms and technology have also helped multiply cross-border linkages among national financial markets.

As recently as the 1970s, individual investors, firms, and governments were generally able to invest or raise capital only within their own self-contained, national financial systems. Access to foreign bank loans, stocks, and other financial instruments was available only to the most sophisticated investors.

Closed markets like these are hard to imagine today. Cross-border financial arrangements have become commonplace. A global financial market has emerged, and the volume and value of the transactions it supports is staggering. The total daily value of foreign exchange transactions (exchanges of one national currency for another) increased from $18.3 billion in 1977 to $4.0 trillion in April 2010  (Spears, 2011).