c) Why are financial markets essential for a healthy economy and economic growth? Financial markets are a common place where the funds are transferred from people who have surplus funds to those who have shortage of funds. It leads to exchange of funds between the borrowers and the lenders. There are two forms of exchange that can take place in an economy. They are direct exchange and indirect exchange. Direct exchange means that the borrowers and lenders meet each other and exchange their securities like stock, bonds etc. Direct exchange takes place through financial markets only. For an economy to function properly, the financial markets have to function efficiently. The health of an economy depends on the transfer of funds. Thus, financial markets are important for economic growth and healthy economy. d) What are derivatives? How can derivatives be used to reduce risk? Can derivatives be used to increase risk? Explain. Derivatives are financial instruments that are exchanged between two parties and the instrument is based on an underlying asset. The value of the derivative is derived from the value of the underlying asset. Derivatives can be used to reduce risk as well as to increase risk. Some companies use derivatives to reduce their exposure to risk while some companies use derivatives to speculate. The companies that use derivatives to speculate are actually trying to increase their income based on increase in risk. e) Briefly describe each of the following financial institutions: investment banks, commercial banks, financial services corporations, pension funds, mutual funds, exchange traded funds, hedge funds, and private equity companies. Invetsment banks: These are financial institutions that help businesses to launch their Initial Public Offerings and start trading their shares in the market. It helps the business to raise funds through equity. Commercial banks: These are financial institutions that help the individual borrowers to borrow money from the bank and other individuals to save their money in the banks through savings accounts. They accept deposits and provide loans as well as offer investment products for individual investors. Financial services corporations: These are conglomerates that provide financial services to individual investors. A group of such financial service providers are grouped together as a financial service corporation. For example: Citi group. Pension funds: Pension funds are plans or schemes that provide retirement benefits or retirement income to the employees of a company. These are invested in by the individual investors or by the employers or both. Mutual funds: These are financial instruments that consist of a combination of a variety of investment options. It can be a combination of stocks, bonds, gold etc. It attracts the investment from individual investors as well as companies. The mutual funds are managed by professional managers. The aim here is to diversify the risk over a variety of inve.

1. c) Why are financial markets essential for a healthy economy and economic growth?
Financial markets are a common place where the funds are transferred from people who have
surplus funds to those who have shortage of funds. It leads to exchange of funds between the
borrowers and the lenders. There are two forms of exchange that can take place in an economy.
They are direct exchange and indirect exchange. Direct exchange means that the borrowers and
lenders meet each other and exchange their securities like stock, bonds etc. Direct exchange
takes place through financial markets only. For an economy to function properly, the financial
markets have to function efficiently. The health of an economy depends on the transfer of funds.
Thus, financial markets are important for economic growth and healthy economy.
d) What are derivatives? How can derivatives be used to reduce risk? Can derivatives be used to
increase risk? Explain.
Derivatives are financial instruments that are exchanged between two parties and the instrument
is based on an underlying asset. The value of the derivative is derived from the value of the
underlying asset.
Derivatives can be used to reduce risk as well as to increase risk. Some companies use
derivatives to reduce their exposure to risk while some companies use derivatives to speculate.
The companies that use derivatives to speculate are actually trying to increase their income based
on increase in risk.
e) Briefly describe each of the following financial institutions: investment banks, commercial
banks, financial services corporations, pension funds, mutual funds, exchange traded funds,
hedge funds, and private equity companies.
Invetsment banks: These are financial institutions that help businesses to launch their Initial
Public Offerings and start trading their shares in the market. It helps the business to raise funds
through equity.
Commercial banks: These are financial institutions that help the individual borrowers to borrow
money from the bank and other individuals to save their money in the banks through savings
accounts. They accept deposits and provide loans as well as offer investment products for
individual investors.
Financial services corporations: These are conglomerates that provide financial services to
individual investors. A group of such financial service providers are grouped together as a
financial service corporation. For example: Citi group.
Pension funds: Pension funds are plans or schemes that provide retirement benefits or retirement
income to the employees of a company. These are invested in by the individual investors or by
the employers or both.
Mutual funds: These are financial instruments that consist of a combination of a variety of

2. investment options. It can be a combination of stocks, bonds, gold etc. It attracts the investment
from individual investors as well as companies. The mutual funds are managed by professional
managers. The aim here is to diversify the risk over a variety of investment options.
Exchange traded funds: These are funds that can be traded in the stock market like shares, bonds
and other financial instruments. The aim is to obtain maximum profits.
Hedge funds: These are financial instruments that pool in funds from a large number of
individuals. They employ variety of strategies to earn maximum return.
Private equity companies: Private equity companies deal with private equity funds. These are not
traded publicly in the stock market.
Solution
c) Why are financial markets essential for a healthy economy and economic growth?
Financial markets are a common place where the funds are transferred from people who have
surplus funds to those who have shortage of funds. It leads to exchange of funds between the
borrowers and the lenders. There are two forms of exchange that can take place in an economy.
They are direct exchange and indirect exchange. Direct exchange means that the borrowers and
lenders meet each other and exchange their securities like stock, bonds etc. Direct exchange
takes place through financial markets only. For an economy to function properly, the financial
markets have to function efficiently. The health of an economy depends on the transfer of funds.
Thus, financial markets are important for economic growth and healthy economy.
d) What are derivatives? How can derivatives be used to reduce risk? Can derivatives be used to
increase risk? Explain.
Derivatives are financial instruments that are exchanged between two parties and the instrument
is based on an underlying asset. The value of the derivative is derived from the value of the
underlying asset.
Derivatives can be used to reduce risk as well as to increase risk. Some companies use
derivatives to reduce their exposure to risk while some companies use derivatives to speculate.
The companies that use derivatives to speculate are actually trying to increase their income based
on increase in risk.
e) Briefly describe each of the following financial institutions: investment banks, commercial
banks, financial services corporations, pension funds, mutual funds, exchange traded funds,
hedge funds, and private equity companies.
Invetsment banks: These are financial institutions that help businesses to launch their Initial
Public Offerings and start trading their shares in the market. It helps the business to raise funds
through equity.

3. Commercial banks: These are financial institutions that help the individual borrowers to borrow
money from the bank and other individuals to save their money in the banks through savings
accounts. They accept deposits and provide loans as well as offer investment products for
individual investors.
Financial services corporations: These are conglomerates that provide financial services to
individual investors. A group of such financial service providers are grouped together as a
financial service corporation. For example: Citi group.
Pension funds: Pension funds are plans or schemes that provide retirement benefits or retirement
income to the employees of a company. These are invested in by the individual investors or by
the employers or both.
Mutual funds: These are financial instruments that consist of a combination of a variety of
investment options. It can be a combination of stocks, bonds, gold etc. It attracts the investment
from individual investors as well as companies. The mutual funds are managed by professional
managers. The aim here is to diversify the risk over a variety of investment options.
Exchange traded funds: These are funds that can be traded in the stock market like shares, bonds
and other financial instruments. The aim is to obtain maximum profits.
Hedge funds: These are financial instruments that pool in funds from a large number of
individuals. They employ variety of strategies to earn maximum return.
Private equity companies: Private equity companies deal with private equity funds. These are not
traded publicly in the stock market.