Of all the many components of a market economy, I don’t think that any are as misunderstood — or reviled — as capital markets. They have never been held in high esteem, and the financial crisis of 2008 did enormous damage to their already low reputation.
Yes, there has been, is, and will be considerable bad behavior in financial markets. That also happens to be true of all sectors of the economy. I also know that without capital markets, all of us would be much poorer. For without capital markets, there is little if any economic growth. Without economic growth, we are trapped in a subsistence economy.
For all its essentialness to the economic well-being of all of us who live in more-or-less market economies, capital markets remain a mystery to many people. That’s why I was heartened to read in the May 20 edition of National Review, which is devoted to defending free markets and market-institutions from a variety of standpoints (including an article about Michael Novak’s case for capitalism by myself), a concise and clear defense of capital markets. It is authored by the wealth-manager, author and Acton University lecturer, David Bahnsen.
It’s not just large enterprises that benefit from America’s capital markets which are the most sophisticated in the world. It’s also smaller businesses. In Bahnsen’s words,
The glory of venture capital in creating Google and Facebook can obscure the countless ways in which American financial markets have improved life outside of Silicon Valley and Wall Street. Small businesses seek debt- and equity-capital partners every day, whether to start up or to expand. Financial markets are the best way to price the risk accurately. Heavy collateral, significant streams of cash flow, and strong inventories tend to provide capital access at a lower cost; more-speculative, open-ended, less collateralized ventures tend to require greater cost of capital (in the form of equity). The existence of liquid, sophisticated financial markets — from conventional debt, to various categories of equity, to complex structures that perhaps combine features of the two — is part of the majesty of the American economy. Put differently, we do not have binary markets — one for high risk and one for low or no risk. The depth, complexity, and nuance of our free-enterprise system, along with advanced capital markets, has created a multitude of options for investors, borrowers, creditors, and every category of financial actor to access capital markets.
Read the whole article. It’s one of the best short explanations of what capital markets do, and how much every single one of us relies upon them, that you’ll read.