Financial markets

Essay
 1

1 ABSTRACT

In this article, I study and evaluate the commonly held belief that a robust financial sector
always helps the economy as a whole. It is widely understood that the financial system as a
whole, or even parts of it, can grow too large at times. The essay furthers our knowledge of the
optimum threshold, which can end up threatening economic and financial stability. This paper
will evaluate the stock market of China and UK for studying the financial markets of two
different countries. Some important terms related to the financial activities and market.

TABLE OF CONTENTS

1 Abstract....................................................................................................................................1

2 Introduction..............................................................................................................................2

2.1 Aim....................................................................................................................................2

2.2 Important terms(1)............................................................................................................2

2.2.1 Inflation......................................................................................................................2

2.2.2 Deflation....................................................................................................................3

2.2.3 Disinflation................................................................................................................3

2.2.4 Reflation....................................................................................................................3

2.2.5 Hyperinflation............................................................................................................3

2.2.6 Stagflation..................................................................................................................3

2.2.7 Rotation......................................................................................................................4

2.2.8 Shrinkflation..............................................................................................................4

2.2.9 Skimpflation..............................................................................................................4

2.2.10 Relation between stock and bond market..................................................................4

3 Stock market of UK and China(2)............................................................................................4

3.1 Stock market of UK(FTSE 100 stock market)..................................................................5

3.2 Stock market of China( Shinghai stock market)...............................................................5

 2

3.3 Analysis.............................................................................................................................5

4 Choice of benchmark index(3).................................................................................................6

4.1 FTSE 100 stock market UK..............................................................................................6

4.2 Shanghai stock market China............................................................................................7

5 UK stock market outperformed(4)...........................................................................................7

5.1 Risk free rates(5)...............................................................................................................8

6 Macroeconomic performances of China and UK(6)................................................................9

6.1 Inflation.............................................................................................................................9

6.2 Economic growth..............................................................................................................9

6.3 Public debt.........................................................................................................................9

6.4 Unemployement figures..................................................................................................10

7 Conclusion..............................................................................................................................10

8 References..............................................................................................................................11

2 INTRODUCTION

There is a growing consensus that, while financial markets typically promote economic
growth, they were operating at an excessive size in the run-up to the present crisis. While
advancements in financial innovation and technology undoubtedly contributed to a recent uptick
in industry profits, the increased dangers taken by the financial sector also play a role (Y Liu
2021). This will lead to a shrinking financial sector as businesses and investors go elsewhere for
returns. The financial markets play a crucial role in today's fast-paced economy by connecting
lenders and investors to facilitate the flow of capital from savers to borrowers (L Horváth 2021) .
However, the last ten years have shown us the perils of letting financial institutions grow too big.
It's possible that negative trends like rent seeking, herd mentality, bubble creation, incentive
misalignment, and the creation of novel, sophisticated financial instruments could balance
finance's positives in this scenario.
 3

2.1 AIM
As the top management, the role of the management is to analyze the financial market and
reporting to UK based Hedge fund which is investing in developed and emerging economies.
The amount of investing is about 1 billion (symbol) for five years.

2.2 IMPORTANT TERMS(1)

2.2.1 Inflation
All prices for goods and services are subject to change in a free market economy. The
general trend of price increases and decreases is not uniform. When the general cost of living, as
opposed to the cost of specific goods and services, rises, we have inflation, and one euro is worth
less than it did a year ago (L Horváth 2021).

2.2.2 Deflation
For the economy as a whole, deflation occurs when consumer and asset prices fall and
people have more money to spend. More or less, the same amount of money you have today will
purchase you more products and services the following day (Karakaş et al. 2021). The opposite
of inflation, which is a general rise in prices, disinflation would be a drop in the annual inflation
rate from, say, three percent to two percent. When the government attempts to revive the
economy by increasing the money supply, this is known as reflation, while the opposite of this is
inflation, or disinflation.

2.2.3 Disinflation
High inflation of consumer prices and low economic growth, both of which tend to be
accompanied by rising unemployment, define a period of stagflation. A supply-side shock, like a
spike in oil prices, or bad economic policies, such excessive government spending or low interest
rates, can both contribute to this (Karakaş et al. 2021).

2.2.4 Reflation
Following a period of economic recession, policymakers may choose to implement
inflation through a process known as reflation. The target is an increase in output, a pick-up in
expenditure, and a slowing of deflationary pressures. Cuts in taxes, investments in new
 4

infrastructure, expansions of the money supply, and reduced interest rates are all on the table (L
Horváth 2021).

2.2.5 Hyperinflation
When inflation rates double every year, economists call it hyperinflation. The rapid
expansion of the money supply is usually to blame for this. The Weimar Republic in post-World
War I Germany is the most studied case since it had to deal with the dual challenges of paying
war reparations and boosting the economy (L Horváth 2021).

2.2.6 Stagflation
High inflation of consumer prices and low economic growth, both of which tend to be
accompanied by rising unemployment, define a period of stagflation. Supply-side shocks, like a
spike in oil prices, or bad economic policies, like excessive government spending or low interest
rates, might trigger such a scenario (Y Liu 2021) .

2.2.7 Rotation
The geometric interpretation of rotation provides a foundation for the mathematical study
of rotation. This means that rotation is any movement that revolves around a fixed point. Any
turn can be thought of as a translation in spacetime that locks in one point or more. As a real-
world illustration of rotation, we can look at the Earth spinning on its axis.

2.2.8 Shrinkflation
When the price of a good or service stays the same but the quantity you receive
decreases, this phenomenon is known as "shrinkflation." Thus, shrinkflation would apply if, say,
the weight of a $3 chocolate bar dropped from 200 grammes to 180 grammes (Y Liu 2021).

2.2.9 Skimpflation
When businesses cut corners on their products and services rather than raise their prices.
NPR gives the examples of Disney reducing tram service in its parking lots, hotels eliminating
breakfast buffets, airlines having extremely long hold times (often exceeding an hour), and
Domino's increasing delivery times. Airlines decreasing the number of flight attendants means
fewer service for passengers on long-haul flights (Chowdhury et al. 2021) . To make you wait
longer when you call in with a technical issue, phone companies have reduced the number of
personnel in call centers.
 5

2.2.10 Relation between stock and bond market

There is usually a relationship between bond yields and stock prices. When bond prices go
down, the stock market usually goes down too. The justification rests on the notion that bonds
are a safer bet than stocks (Chowdhury et al. 2021).

3 STOCK MARKET OF UK AND CHINA(2)

The stock market's ability to organize resources and direct them toward productive ventures
depends on its close relationship to the rest of the economy. Financial intermediaries such as
capital markets facilitate the transfer of long-term savings from investors to those seeking to
make large financial investments. The stock market plays a crucial role in any nation because it
centralizes the allocation of domestic resources and directs them toward profitable investments
(Karakas et al. 2021). Still, it needs substantial ties to the economy to serve this function.
Because they facilitate the transfer of long-term financial resources from savers to borrowers,
capital markets are critical components of today's market-based economic system. For a country
to prosper, it needs capital markets that work well. Capital markets throughout the world are
becoming more intertwined with one another as economies around the world become more
integrated.

3.1 STOCK MARKET OF UK(FTSE 100 STOCK MARKET)

The latest stock index is 7445.97 he FTSE 100 is an index tracking the 100 most valuable
companies traded on the London Stock Exchange. It was established in 1984 and is managed by
FTSE group, a London Stock Exchange affiliate. The FTSE 100 index's responsiveness to shifts
in markets around the world makes it a useful barometer of global as well as domestic economic
health (Karakas et al. 2021). About 80% of the value traded on the London Stock Exchange is
held by companies in the FTSE 100. The market cap of the index provides a large enough data
set from which to draw meaningful conclusions about the distribution of typical stock returns in
the UK. These FTSE 100 firms' data and financials are more easily accessible than those of the
rest of the market.
 6

3.2 STOCK MARKET OF CHINA( SHANGHAI STOCK MARKET)

The latest Shanghai stock index is 3,179.04. The Shanghai Composite Indicator, for
instance, is the most widely followed stock market index in the Chinese economy. Over the past
decade, it has dropped by 40 percent due to the policies of their government. China's government
corruption threatens the corporations that make up the Shanghai Composite Index (L Horváth
2021). Corruption in China creates significant dangers for any company doing business there or
thinking about investing in the nation. This can make it difficult to assess the viability of
investments in China's market. No one can know what is going on in the market since the
government is manipulating it. Many people in China's business community were arrested after
the government launched an anti-corruption operation. Even though China's government is in a
terrible place right now, I believe the country can pull through by doubling down on its strengths,
chief among which are its people's intelligence (Li et al. 2021).

3.3 ANALYSIS
Both China and the United Kingdom have benefited greatly from China's slow but steady
economic progress. China's quick rise to prominence on the international stage can be attributed
to the country's policy and economic reforms over the past three decades. The London Stock
Exchange Group, a major player in the international financial sector, is pleased to have provided
funding for this initiative (Prime 2020). The Shanghai-London Stock Connect links the world's
largest domestic capital market with the world's most important international exchange.
Companies registered on the London Stock Exchange gain direct access to Chinese investors,
while international investors gain exposure to China's economic growth through London (Prime
2020).

There are a lot of firsts involved in this project. This is a historic first for both foreign and
local companies listed on the Shanghai Stock Exchange (SSE), since they are now able to raise
cash overseas by selling securities that are interchangeable with their Chinese shares. This marks
the first time Chinese investors have had direct access to overseas stock markets from within
China, free from the constraints of the country's own capital controls. It's the first time foreign
investors have had direct access to A-shares of the Chinese stock market from locations outside
of Greater China and using standard international trading and settlement procedures (Chien
2022). The Shanghai-London Stock Connect was established by SSE and LSEG in conjunction
 7

with the regulatory authorities of both countries, the United Kingdom and China. There is a plan
that encourages the growth of a thriving financial ecosystem linking China, the United Kingdom,
and the rest of the global economy by adopting new legislation and making use of existing
infrastructure. Businesses from both nations, including issuers, banks, brokers, asset managers,
asset owners, and professional service providers, are encouraged to explore Stock Connect.
Including in an Index (Chien 2022).

The FTSE Russell China benchmarks have been widely recognized by investors and issuers
globally as a leading measure of the Chinese equities market, and FTSE Russell has a proven
track record in establishing Chinese market indexes as part of LSEG's world-leading index and
analytics division. Reflecting China's amazing rise and the tremendous success made in Chinese
equity capital markets, FTSE Russell now includes A-shares in its global equity benchmarks
(Chien 2022).

4 CHOICE OF BENCHMARK INDEX(3)

4.1 FTSE 100 STOCK MARKET UK

The comparatively high value of the FTSE 100 Index of the United Kingdom is a boon for
the struggling economy of that nation. The 100 largest firms traded on the main market of the
London Stock Exchange make up the FTSE 100 Index, which is a market capitalization weighted
index. Roughly 81% of the UK's total market cap is held by this company. While the FTSE All-
Share Index includes more companies, the FTSE 100 is the most frequently followed index in the
UK stock market (Li et al. 2021) .
 8

Figure 1: Stock index of FTSE 100

4.2 SHANGHAI STOCK MARKET CHINA

On Monday, the banking and resource-related companies led the loss that caused the
Shanghai Composite to fall 0.87 percent to 3,179 and the Shenzhen Component to fall 0.89
percent to 11,399. Investors have become wary as this week brings important interest rate
decisions from central banks and a crucial US inflation report that could affect rate forecasts (Li
et al. 2021) . Since China is continuing to loosen limits on Covid despite a prominent medical
adviser in the country claiming the fatality rate of the omicron form is similar to influenza,
investors have expressed concern that mounting Covid cases may impede economic operations.
Ping An Insurance (-3%), China Merchants Bank (-2.6%), and Ping A Bank (-4.3%) were the
three biggest losers in the banking industry . Yantai Gold (-7.3%), Shaanxi Coal (-4%) and
Guanghua Energy (-4%) were all resource equities that fell in value (Li et al. 2021).
 9

Figure 2: Shanghai Stock index

5 UK STOCK MARKET OUTPERFORMED(4)

As thus, news of the FTSE 100's precipitous drop from 7,500 to 5,000 at the onset of the
Covid-19 outbreak served as an indicator of the broader market's performance during the crisis.
However, there is a plethora of alternatives outside of the UK's main index, with smaller
companies having the potential for higher returns compared to their larger counterparts (Li et al.
2021). An investment in the FTSE Fledgling index would have yielded a total return of over 40%
over the last five years, compared to just 19% for the FTSE 100 during the same time period. In
this article, we'll examine the many investing opportunities on the London Stock Exchange's
Main Market and Alternative Investment Market, as well as the markets' top performers over the
past several years (Yao et al. 2008).

The FTSE 100 is often regarded as the most representative index of the London Stock
Exchange (LSE) and the UK stock market as a whole. It consists of the 100 most valuable firms
on the Main Market, with a combined market cap of around £20 billion. At the moment,
AstraZeneca's market worth of almost £170 billion makes it the largest business in the FTSE
100, with Harbor Energy at the other end of the spectrum with a value of just £3 billion.
Companies in the commodity, finance, and consumer goods industries are significantly
 10

represented in the FTSE (Chowdhury et al. 2021) 100 . Shell and BP represent the oil industry,
Anglo American and Rio Tinto the mining industry, and HSBC and Barclays the banking
industry as members of the FTSE 100. The index now gives a weighting of 8% to Shell and
AstraZeneca, two of the bigger major corporations. Therefore, considerable effects from changes
in the share prices of these companies propagate across the index. Over 75% of FTSE 100
companies' revenue comes from outside of the UK, hence the index clearly has a worldwide
focus, as reported by FTSE Russell. Moreover, BP, Shell, HSBC, and AstraZeneca publish their
financial statements in dollars rather than pounds because the vast majority of their business is
handled in that currency (Chowdhury et al. 2021) .

5.1 RISK FREE RATES(5)

As of Tuesday, December 12th 2022, Reuters reports that Shares of Home REIT hit a record
low as a short-seller questioned the company's financial position, and British stocks overall
ended the day down as investors remained wary ahead of interest rate decisions this week. In its
worst closing in over three weeks, the blue chip FTSE 100 (.FTSE) fell 0.4%. In the financial
markets, participants were preparing for monetary policy decisions from the Federal Reserve of
the United States on Wednesday and the Bank of England on Thursday, with both central banks
largely expected to raise interest rates by 50 basis points (Li et al. 2021). "This week, the markets
are sitting on the sidelines as they await the release of U.S. consumer price index data and the
Federal Reserve's policy statement. The market will be paying great attention to these two
metrics because the Fed controls everything "TS Lombard's head of strategy, Andrea Ciccone,
made that statement. While data indicated Britain's economy rebounded in October slightly more
quickly than predicted from September, when output was impacted by a one-time public holiday
to celebrate the burial of Queen Elizabeth, a recession was still likely (MarketWatch 2022) .

6 MACROECONOMIC PERFORMANCES OF CHINA AND UK(6)

6.1 INFLATION
Compared to September 2022, when it was 13.2%, the annual inflation rate for CPIH items
is now 14.8%. The CPIH services index and the core CPIH index both remain at their highest
rates since March 1993 and March 1992, respectively.
 11

While annual inflation in China declined to 1.6% yoy in November 2022 from 2.1% in the
previous month, in line with market expectations. The substantial drop in food costs (3.7% vs.
7.0% in October) is mostly responsible for this decrease; after authorities released national
reserves into the market, the price of pork fell even further, bringing the overall food price index
to its lowest level since March (MarketWatch 2022) .

6.2 ECONOMIC GROWTH

We forecast UK GDP growth of 3.1%–3.6% for the year 2022, followed by two years of
weak or negative growth (MarketWatch 2022).

GDP expansion will moderate to 3.3% in 2022, 4.6% in 2023, and 4.1% in 2024. Repeated
waves of lockdowns in 2022 have disrupted economic activity due to the development of the
omicron variety (MarketWatch 2022)

6.3 PUBLIC DEBT

At the conclusion of Quarter 2 (April–June) 2022, the total accumulated debt held by the
general government of the United Kingdom was £2,436.7 billion, or 101.9% of GDP (GDP). The
deficit (or net borrowing) of the UK government in the second quarter of 2022 was £43.9 billion,
or 7.2% of GDP (MarketWatch 2022).

China's total foreign debt, including debt denominated in U.S. dollars, was over $2.4
trillion as of the end of 2020. The national government's debt is above $300 trillion, which is
more than the country's annual GDP. We only include Federal and State debts in Government
Debt. According to the most recent data, in September of 2022 China's Consolidated Fiscal
Balance showed a deficit of 5.5% of Nominal GDP. In June of 2022, the national debt was
equivalent to 20.3% of the nominal gross domestic product. During the month of September
2022, China's nominal GDP hit 4,489.7 billion US dollars (China Shanghai Composite Stock
Market Index 2022).

6.4 UNEMPLOYMENT FIGURES

For the three months of July through September 2022, the unemployment rate fell by 0.2
percentage points, to 3.6 percent. There was a decline in the overall number of unemployed
throughout the most recent three-month period (MarketWatch 2022).
 12

The unemployment rate in China has been falling steadily since it peaked at 6.20 percent in
February 2020 and fell to its lowest point in September 2002 at 3.90 percent. The unemployment
rate in the sample in April 2022 was 6.1%, up from 5.9% in March 2022 due to fresh coronavirus
COVID-19 outbreaks and subsequent lockdowns. In the third quarter of 2022, China's
unemployment rate was 5.4% (Chien 2022).

7 CONCLUSION

There is no denying the potential dangers offered by a financial sector that is too big,
therefore the question of whether or not it is appropriate to regulate the industry's growth remains
an open one. This question should have a straightforward affirmative answer based on the
supplied evidence. However, we must be careful not to stifle financial markets to the point that
they can no longer contribute to economic expansion. Therefore, the proposed steps are not
intended to be "punitive" because they are focused at making the industry safer. Their plan is to
"re-direct" the financial system so that it doesn't adopt any practices that aren't viable in the long
run (Y Liu 2021). The purpose of these measures is to prevent commercial banks and other non-
traditional financial entities from engaging in excessive risk-taking outside of the purview of
regulators. We take seriously the responsibility of making sure the financial sector is big enough
to support the economy but not "too big." There is a trade-off between economic growth and
financial stability, and finding that sweet spot is a challenging but crucial endeavor.

8 REFERENCES

China Shanghai Composite Stock Market Index 2022. China Shanghai Composite Stock Market
Index. Available at: https://tradingeconomics.com/china/stock-market#:~:text=The%20China
%20Shanghai%20Composite%20Stock%20Market%20Index%20is%20expected
%20to,2840.40%20in%2012%20months%20time. [Accessed: 12 December 2022].

MarketWatch 2022. UKX | FTSE 100 Index Overview | MarketWatch. Available at:
https://www.marketwatch.com/investing/index/ukx?countrycode=uk [Accessed: 12 December
2022].

Li, C., Su, C.-W., Altuntaş, M. and Li, X. 2021. COVID-19 and stock market nexus: evidence
from Shanghai Stock Exchange. Economic Research-Ekonomska Istraživanja 35(1), pp. 2351–
2364. Available at: http://dx.doi.org/10.1080/1331677x.2021.1941181.
 13

Prime, S. 2020. Forecasting the changes in daily stock prices in Shanghai Stock Exchange using
Neural Network and Ordinary Least Squares Regression. Investment Management and Financial
Innovations 17(3), pp. 292–307. Available at: http://dx.doi.org/10.21511/imfi.17(3).2020.22.

Forecast of Shanghai Stock Exchange 50 Stock Index Based on CNN-LSTM. 2022. Academic
Journal of Business & Management 4(5). Available at:
http://dx.doi.org/10.25236/ajbm.2022.040503.

Chien, N.V. 2022. The Impact of the COVID-19 Pandemic and the Cryptocurrency Price on the
Stock Exchange Index – Evidence from Shanghai Stock Exchange. VNU JOURNAL OF
ECONOMICS AND BUSINESS 2(1). Available at: http://dx.doi.org/10.57110/jeb.v2i1.4649.

Yao, S., Morgan, S.L. and Luo, D. 2008. Shanghai Stock Exchange Composite Index and Bank
Stock Prices in China: A Causality Analysis. SSRN Electronic Journal . Available at:
http://dx.doi.org/10.2139/ssrn.1184844.

Chowdhury, E.K., Khan, I.I. and Dhar, B.K. 2021. Catastrophic impact of Covid‐19 on the
global stock markets and economic activities. Business and Society Review 127(2), pp. 437–460.
Available at: http://dx.doi.org/10.1111/basr.12219.

Karakaş, A.M., Demi̇ r, A. and Çalik, S. 2021. Vine copula approach for modelling dependence
of commodity and stock markets. Journal of Statistics and Management Systems 25(1), pp. 1–21.
Available at: http://dx.doi.org/10.1080/09720510.2021.1877904.

L Horváth 2021. How to identify the different phases of stock market bubbles statistically?
Available at: https://www.sciencedirect.com/science/article/pii/S154461232100369X [Accessed:
12 December 2022].

Y Liu 2021. International stock market risk contagion during the COVID-19 pandemic.
Available at: https://www.sciencedirect.com/science/article/pii/S1544612321002269 [Accessed:
12 December 2022].