ENGINEERING ECONOMICS

ASSIGNMENT NO #1

Submitted By: Fatima Zubair

Roll No: 19-SE-79

Submitted To: Muhammad Asjad

Software Engineering Department UET Taxila

How stock exchanges are managed and how the situation of one
stock exchange affects the rest?

Stock Exchange:
The brokers act as intermediaries between the stock exchanges and the investors by buying and
selling stocks on the investors' behalf. An account with a retail broker is needed to gain access to
the markets.These managers get recommendations from analysts and make the buy or sell
decisions for the portfolio.

How Stock Exchange is managed?

A stock exchange is a place where different financial instruments are traded stocks,
commodities, derivatives, etc .Bringing corporations and governments together with
investors. Exchanges help provide liquidity in the market, giving sellers a place to
liquidate their shareholdings. They also ensure trading takes place in a fair and efficient
manner so important information such as prices can be transmitted to investors and
financial professionals.

Stocks first become available on an exchange after a company conducts its initial public
offering (IPO). A company sells shares to an initial set of public shareholders in an IPO
known as the primary market. After the IPO floats shares into the hands of public
shareholders, these shares can be sold and purchased on an exchange or the secondary
market.

A stock exchange is a centralized location that brings corporations and governments

together with investors so trading activity can take place .Auction-based exchanges such
as the New York Stock Exchange allow traders and brokers to physically and verbally
communicate to execute buy and sell orders .Electronic exchanges take place on
electronic platforms so they don't require a centralized physical location for trades.

Electronic communication networks connect buyers and sellers directly by bypassing

market makers .The OTCBB and Pink Sheets are two different over-the-counter markets
where stocks delisted or unlisted stocks trade.
Auction Exchanges:

Auction exchanges or the auction market is a place where buyers and sellers put in
competitive bids and offers at the same time. In an auction exchange, the current stock
price is the highest price a buyer is willing to spend on a security, while the lowest price
is what the seller will accept. Trades are then matched and when paired together, the
order is executed.

The auction market is also referred to as the open outcry system, where brokers and
traders communicate physically and verbally on the trading floor or pit to buy and sell
securities. Although this system is slowly being phased out by electronic systems, some
exchanges still use the auction system including the New York Stock Exchange  (NYSE).

Electronic Exchanges:

Many exchanges now allow trading electronically. There are no traders and no physical
trading activity. Instead, trading takes place on an electronic platform and doesn't require
a centralized location where buyers and sellers can meet.

These exchanges are considered more efficient and much faster than traditional
exchanges and carry out billions of dollars' worth of trades each day. The Nas- daq is one
of the world's leading electronic exchanges.

How the situation of one stock exchange effecst the rest ?

Movements in the stock market can have a profound economic impact on the economy
and individual consumers. A collapse in share prices has the potential to cause
widespread economic disruption. Most famously, the stock market crash of 1929 was a
key factor in precipitating the great depression of the 1930s. Yet, daily movements in the
stock market can also have less impact on the economy than we might imagine. The stock
market is not the real economy. Share prices can change for many reasons – such as
correcting an over-valuation and even large falls in share do not necessarily lead to lower
growth.

The point is a rapid fall in share prices, doesn’t necessarily mean the economy is doing
badly:
(Source: Thrapper, Wikipedia. CC-SA-BY 3.0)

For example, the stock market crash of 1987, didn’t cause any economic damage in the
real economy (Though it did influence monetary policy). The UK cut interest rates in fear
the stock market crash would cause a recession. Instead, low-interest rates caused an
economic boom with rapid rates of economic growth.

The 1987 stock market crash (where shares fell 25% in value) didn’t reflect serious
economic problems, and the world economy continued to grow at a decent pace.
Economic effects of the stock market

1. Wealth effect

The first impact is that people with shares will see a fall in their wealth. If the fall is
significant, it will affect their financial outlook. If they are losing money on shares they
will be more hesitant to spend money; this can contribute to a fall in consumer spending.
However, this effect should not be given too much importance. Often people who buy
shares are wealthy and prepared to lose money; their spending patterns are usually
independent of share prices, especially for short-term losses. Also, only around 10% of
households own shares for the majority of consumers, they will not be directly affected
by a fall in share prices.

The wealth effect is more prominent in the housing market.  (E.g. falling house prices
affect more consumers).

2. Effect on pensions
Anybody with a private pension or investment trust will be affected by the stock market,
at least indirectly. Pension funds invest a significant part of their funds in the stock
market. Therefore, if there is a serious and prolonged fall in share prices, it reduces the
value of pension funds. This means that future pension payouts will be lower. If share
prices fall too much, pension funds can struggle to meet their promises. The important
thing is the long-term movements in the share prices. If share prices fall for a long time,
then it will definitely affect pension funds and future payouts. This may cause households
to have lower pension income, and they may feel the need to save more in other terms.

3. Confidence
Often share price movements are reflections of what is happening in the economy. E.g. a
fear of a recession and global slowdown could cause share prices to fall. The stock
market itself can affect consumer confidence. Bad headlines of falling share prices are
another factor which discourages people from spending. For example, the stock market
falls of 2008/09 reflected the fall in confidence. On its own, it may not have much effect,
but combined with falling house prices, share prices can be a discouraging factor.
However, there are times when the stock market can appear out of step with the rest of
the economy. In the depth of a recession, share prices may rise as investors look forward
to a recovery two years in the future.

4. Investment
Falling share prices can hamper firms’ ability to raise finance on the stock market. Firms
who are expanding and wish to borrow often do so by issuing more shares it provides a
low-cost way of borrowing more money. However, with falling share prices it becomes
much more difficult.

5. Bond market
A fall in the stock market makes other investments more attractive. People may move out
of shares and into government bonds or gold. These investments offer a better return in
times of uncertainty .Though sometimes the stock market could be falling over concerns
in government bond markets.