Question

Although the real assets constitute the true productive capacity of an economy, it is hard to conceive of a modern economy without well-developed financial markets and security types.

How would the productive capacity of the US economy be affected if there were no markets in which to trade financial assets?

Answer 1

Productive capacity of an economy is a function of the real assets of the economy. Real assets include plant, machinery and knowledge used to generate goods and services. Whereas financial assets are individual's claims on income generated by real assets.

Advantages of Financial assets:

• Financial assets help large firms to raise the capital required to finance their investments projects in real assets.
• Trading in financial assets help maintaining a lower cost of capital as financing through financial assets is easier.
• Lower cost of capital would attract more investments.

All these benefits of financial assets will disappear in the absence of trade markets for financial assets. Absence of such markets will result in higher cost of capital as financial assets will no longer be available for various business expansion and investment projects.

Therefore, productive capacity of U.S. economy would be affected adversely if there were no trade markets for financial assets.