Role of Gamma Risk in Options Trading
Gamma measures the risk that remains once the portfolio is delta neutral (non-linearity... Read More
As seen in the previous LOS, regulation is a form of government intervention in a market. Regulation deals with rules and their enforcement.
The reasons for financial market regulations include:
The integrity of the market is vital to the safety of consumers and investors. This can be achieved by ensuring that market operations are efficient and that investors and consumers are informed rather than exploited.
Safety and soundness of the financial market involve securities registration and disclosure requirements, which facilitate and support the market environment and, as such, boost investors’ confidence. Disclosures—for example, financial reporting requirements and accounting standards—enable investors to evaluate the results of investing in various financial instruments and encourage market operations.
Many financial market regulations are outlined to reduce agency problems (conflicts). These are problems that come up due to transactions through agents (intermediaries). Examples of these regulations include rules on the governance of listed companies, appropriate implementation requirements of the brokers or dealers, and conduct towards the commissions and other benefits earned as a result of providing investment advice and management.
There are regulations related to the prudential supervision of financial institutions and financial stability. Prudential supervision refers to the control and monitoring of a financial institution to facilitate financial stability, reduce systematic risks, and protect the customers of the financial institution in question. For instance, if a bank goes under, its customers will suffer losses in the form of savings and access to credit. This validates the need for regulations.
Other purposes of financial market regulations include maintaining price stability, monitoring employment or unemployment levels, and promoting economic growth.
Regulating commerce results in a practical framework for private companies to operate in. Besides, it facilitates business decision-making based on thorough consideration. Some of the purposes of regulations of commerce include:
The development of commerce occurs locally, nationally, regionally, and globally. For instance, global commerce is promoted through sound trade agreements. In the case of the national level, regional or local levels, some of the regulations by the respective governments include the establishment of a legal framework for contracting and creating appropriate standards.
Due to globalization and advanced internet activities, governments have come up with legislation to regulate intellectual properties such as copyrights and trademarks.
Due to ever-changing technology, many firms have embraced digitization. As a result, there is an increasing amount of data collected, distributed, and utilized in digital form to lower costs. This informs the need for regulations to facilitate privacy and data protection. For example, laws such as General Data Protection Regulation (GDPR) in the European Union require firms and the government to protect personal data in their databases and maintain relevant security procedures.
Clearly defined laws that govern contracts, their explanations, and the legal rights of each party in the agreement are essential in commerce. In a nutshell, a well-established judicial system encourages market participants to engage in long-term commercial investments.
Question
Which of the following is most likely the purpose of regulating commerce?’
- Promotion of commerce.
- Protection of consumers and investors.
- Accessibility to credit.
Solution
The correct answer is A. Government policies are critical in the promotion of commerce both locally as well as globally.
B and C are incorrect. Protection of consumers and investors and accessibility of credit are purposes of regulating financial markets.
Reading 10: Economics of Regulation
LOS 10 (b) Explain the purposes of regulating commerce and financial markets.