To understand and assess the performance of financial markets and characteristics of capital distribution, it is necessary to compare the properties of several countries, Britain and Russia, in the case of this study. The purpose of the report is to examine the indicators critically and make investment recommendations. This country was chosen because it has a high level of development, and the volume of GDP exceeds the data of most states. At the same time, its economy is a transitional one, and industrialization and globalization create many challenges to overcome for economic growth. Therefore, the report focuses on key issues and evaluation of the trade policy of Russia. The main functions of the financial market, instruments, key players, and financial processes within them are defined. The report also explains the concept of capital allocation at both national and international levels.
Background of Financial Markets
A financial market is a tool that allows for selling and buying securities (stocks and bonds), commodities (precious metals and agricultural goods), and other fungible items at prices that reflect the efficient market hypothesis. Like any market, the financial one is designed to establish direct contacts between buyers and sellers of financial resources. Companies, regions, and states actively use it to attract monetary means to ensure the implementation of investment projects (Pilbeam, 2018). However, it is demanded not only by financial institutions, which play a major role, but also by private investors who use it to place temporarily free funds to receive a return on invested capital.
The primary function of financial markets is to ensure the flow of funds from economic entities, for which they are currently free (not used), to subjects who require monetary resources. By performing this purpose, there is a movement of the value of the social product, which culminates in the exchange of money for a financial asset. The second function is to organize the process of bringing commercial assets to consumers. It is manifested by creating a network of various institutions for the sale of financial assets (banks, exchanges, brokerage houses, investment funds, fund stores). The markets also create conditions for the entrepreneur to collect the economic resources necessary to develop commercial activities and satisfy consumers. Moreover, the function is to create conditions for the continuous movement of money in making various payments and regulating the amount of cash supply in circulation (Pilbeam, 2018). According to it, the monetary policy of the state is carried out.
Financial markets are created to enable the sale and purchase of assets such as bonds, stocks, foreign exchange, and derivatives. One type of financial market is the stock market, which trades in shares of public companies. Each stock has a set price, which enables investors to make money on stocks when they are doing properly in the market. It is essential to remark that a bond market also offers companies and the government the chance to raise money to finance a project or investment. Investors buy bonds from the company in the bond market, and the organization returns the number of bonds during the agreed period plus interest (Pilbeam, 2018). Commodity business is a place where dealers and investors purchase and sell natural resources or commodities such as corn, vegetable oil, meat, and gold. Another type of financial market is the derivatives market. Such a market includes derivative instruments or contracts whose value is based on the business value of the traded asset.
Financial instruments are assets or can also be thought of as packages of capital that can be traded. Financial instruments can primarily be divided into two types – derivatives and monetary instruments. Derivatives can be defined as instruments whose characteristics and value can be derived from underlying entities such as interest rates, indices, or assets, among others. They can also be linked to other securities such as bonds and stocks. On the other hand, monetary instruments are defined as instruments that can be easily transferred and valued in the marketplace. Some of the simplest examples of monetary instruments are deposits and loans, in which lenders and borrowers must be matched.
There are various participants in the financial market whose functions are determined by their objectives and the degree of assistance in individual transactions. Investors are such subjects who spend their money in various types of securities to receive income. It is derived from interest, dividends, and an increase in the price of securities. Their status is divided into individuals (private enterprises, physical persons) and institutional investors (represented by various investment institutions). Another group is lenders who primarily place their funds in banks, participate in investment funds, or buy securities directly (Pilbeam, 2018). It can be the government, commercial banks, credit unions, and other non-banking and credit-financial institutions. Their central function is to sell monetary assets to meet the various financial needs of borrowers.
Borrowers are subjects who receive credit from lenders under certain guarantees of repayment and for a certain fee in the form of interest. The main borrower of monetary assets on the financial market in the state, commercial banks, enterprises, and households. Financial intermediaries also form a large group of participants, providing intermediary communication between buyers and sellers of monetary instruments. With their help, savings are transformed into loans and investments for other business units, enabling them to meet the need for additional funds to expand their activities. Against the background of the constant dynamic development of the world economy caused by globalization, the relations of financial markets require constant control and regulation (Oprea and Stoica, 2018, p. 23). An example can be the FCA, an independent non-governmental body responsible for regulating and supervising the activities of all investment, financial, and banking companies operating in the UK.
Capital markets consist of providers and users of money. Providers include households through savings accounts with banks and institutions such as pension funds, life insurance companies, charitable foundations, and nonfinancial companies that generate a cash surplus (Oprea and Stoica, 2018, p. 24). Users of funds distributed in capital markets include home and car buyers, nonfinancial companies, and governments that finance infrastructure investments and operating expenses. Capital markets are used primarily to sell financial products such as stocks and debt securities.
The derivatives market includes financial instruments, such as futures contracts or options, based on the value of their underlying assets. Market participants include hedgers, speculators, traders, and arbitrageurs. There are also margin traders in the financial industry who invest to cover the credit risk associated with the investment. Participants in this market also use options, futures, and swaps. A products business is a market for buying, selling, and trading raw materials or primary products (Oprea and Stoica, 2018, p. 24). Commodity markets provide producers and consumers of commodity products to access them in a centralized and liquid market. These market actors can use derivatives to hedge future consumption or production. Speculators, investors, and arbitrageurs also play an active role in these markets.
The funds market refers to the speculation of short-term debt. At the wholesale level, it involves large volumes of trading between institutions and traders. The retail level includes money market mutual funds purchased by individual investors and money market accounts opened by bank customers. Most money market transactions are wholesale transactions between financial institutions and companies. The foreign exchange market includes commercial banks, brokers, the Central Bank, MNCs, individuals, and small companies (Pilbeam, 2018). Market participants use the currency to hedge international currency and interest rate risk, speculate on geopolitical events, and diversify portfolios, among other reasons.
Capital Allocation within a Domestic Economy
Allocating capital means investing financial resources in a way that increases efficiency and maximizes returns. For this process, it is important to consider the viability of available investment options, assess the potential impact, and designate additional funds appropriately to achieve the greatest overall results. The domestic U.K. fund management industry has significant (and growing) assets under management. The U.K.’s role in this regard is to connect those who have capital with those who seek to manage and service such assets (Zogning, 2017, p. 46). The country offers a safe, convenient and comfortable place for asset managers trying to do business with investors, both from the U.K. itself and from other jurisdictions. Capital allocation covers all major asset classes, including equities, fixed income, and real estate, as well as a wide range of alternative investments.
The U.K. provides services to international clients, including central banks, sovereign wealth funds, pension funds, insurance companies, corporations, foundations, endowments, and individual investors. It has enabled the country to become a leading destination for finding and distributing capital and has attracted people to use the country as a platform to reach global investors (Dutta, 2020, p.685). This success is based partly on a regulatory framework that protects investor interests while striking the right balance between stability and competition. In addition, the natural advantages of the time zone and the use of the English language are all factors that contribute to London’s prominence. The volume of capital accumulated within the country is unevenly distributed among the sectors of the economy and comes mainly from developed financial services, as well as from the oil and gas, pharmaceutical and chemical industries. The current position of Great Britain is characterized by record levels of attracted foreign investment, which is also an important source of capital. Its aim is further redistribution to improve the economic performance of the country.
The U.K. government intends to protect and strengthen capital efficiency, especially as ties with the European Union weakened after Brexit. It has issued a series of investment management strategy documents outlining intentions to support the sector, including its efforts to remain a crucial global hub. The Bank of England’s monetary policy also largely influences how much money is in the economy and how much it is worth borrowing. It uses two main financial instruments for conducting monetary policy. The first is the interest rate it charges banks to lend money. Second, it buys bonds to lower discount prices on savings and loans through quantitative easing. Low and stable inflation has a big impact on the U.K. economy and is the main goal of the bank’s monetary policy (Zogning, 2017, p. 48). British corporations also effectively manage and allocate assets. They raise capital from investors, who range from individuals and corporations to funds, and distribute investments in global markets.
Capital Allocation within International Market
In the context of international direct investment, partners contribute capital to funds that diversify globally rather than being limited to local investment. Allocating capital totally involves investing in both emerging and developed markets. For the first time began to study the international movement of capital J.C. Mill. He concluded that by providing loans to foreign countries or establishing there, with the aid of the capital of its entrepreneurs, the production of export goods, the country exporting capital promotes the development of its foreign trade (Maggiori, Neiman and Schreger, 2020). Mill also pointed out that capital moves between countries because of the difference in the rate of profit, which tends to decrease in the most capital-rich countries, as Ricardo argued.
The growing interest in global value chains is primarily due to the statistical problems of estimating the volume of international trade. For example, China’s contribution to iPhone production is only $6.5. China’s contribution is only $6.5, while Japan, South Korea, and Germany account for the bulk. However, all of the value-added in other countries will be reflected in PRC export statistics, which will show large volumes of exported goods.
Developed countries have accumulated more capital than less developed countries (only 18 percent of the world’s financial capital). The rest of the financial resources are in the hands of the United States, the EU, and Japan. A small part of the world’s financial capital belongs to international organizations. This is mainly the funds of the International Monetary Fund and the World Bank. The authorized capital of the IMF will exceed $700 billion after its expansion. The capital of the entire World Bank Group is growing at the price of bonds issued and its resources, reaching a value of about $600 billion (Maggiori, Neiman and Schreger, 2020). Both organizations use their capital primarily for international aid.
Much more financial capital is concentrated in stock markets. It is actively bought and sold on stock exchanges and collected in large quantities in banks and financial companies. The importance of global financial centers is demonstrated by the fact that due to London as the second main global financial center, with its large amount of non-English capital, the financial capital in Great Britain is 799% of its GDP. The world’s financial centers are close to offshore financial markets, which attract foreign financial capital through tax incentives. It is clear that concerning the small size of the offshore, their accumulated financial capital can amount to a huge value. For example, the accumulated financial capital in Luxembourg is more than 3000% of its GDP (Maggiori, Neiman and Schreger, 2020). It is clear that this capital operates not so much in Luxembourg as outside it, and Luxembourg is only the place where it is registered.
Coca-Cola has doubled its investments in India through 2020 as it seeks to ‘stay ahead of the trajectory’ in that country. The company is increasing its investments because the corporation estimates the potential for accumulation of capital. Their ongoing investment in India is focused on delivering innovation, partnerships, and a portfolio that improves customer experience ensures product availability and creates brand loyalty for long-term growth. In direct foreign direct investment, foreign direct investment brings the company closer to the market (for example, Toyota buys a car dealership in the UK) (Maggiori, Neiman and Schreger, 2020). In the case of backward vertical foreign direct investment (FDI), international integration returns to raw materials (for example, Toyota gains a majority stake in a tire manufacturer or rubber plantation).
Evaluation of Russia Emerging Economy
In 2020, Russia had a gross domestic product of $1.46 trillion. In the world rankings for nominal GDP, Russia found itself between the Republic of Korea and Brazil. The COVID-19 pandemic caused the Russian economy to shrink by 3.6 percent in 2020 (Tripathi and Kaur, 2020, p. 532). Among the most affected segments are tourist accommodations, clothing manufacturing, and cultural events. Russia was among the producers of oil, gas, coal, and steel. Coke and refined petroleum products had the greatest value among production segments. In addition, revenue from the trade of energy outside was the main part of Russia’s federal budget since mineral products accounted for half of the total exports.
The country also has a comparative advantage in oil production and benefits by trading it in exchange for other goods manufactured in other territories, such as cars. This position is very beneficial because the nation receives goods at a lower price than it could produce. Russia’s main exports are crude oil ($123 billion), refined oil ($66.2 billion), oil gas ($26.3 billion), coal briquettes ($17.6 billion), and wheat ($8.14 billion), mostly to China ($58.1 billion). In 2019, Russia was the world’s largest exporter of wheat ($8.14 billion), semi-finished products ($6.99 billion), coal tar ($4.49 billion), crude nickel ($4.03 billion), and nitrogen fertilizers ($3.05 billion).
Russia’s main imports are cars ($11 billion), packaged drugs ($10.2 billion), vehicle parts ($8.21 billion), broadcasting equipment ($6.75 billion), and aircraft, helicopters, and spacecraft ($4.81 billion), imported mainly from Russia. China ($47.1 billion), Germany ($30 billion), Belarus ($13.4 billion), the United States ($9.21 billion), and Italy ($8.79 billion) (Tripathi and Kaur, 2020, p. 534). In 2019, Russia was the world’s largest importer of refractory cement ($162 million), wallpaper ($144 million), deposited copper ($141 million). Moreover, Russia imports goods, the production costs of which, compared to others, are higher than those of exported ones. This contributes to saving labor resources while maintaining the same volume of consumption.
As a member of the WTO, Russia signed the General Agreement on Trade in Services (GATS), which provides a legal framework for removing barriers affecting trade in professional services. Russia has committed to providing significant transparency across a wide range of subsectors in the services sector, including removing many existing restrictions, such as financial services and telecommunications. In 2011, eight countries from the Commonwealth of Independent States (CIS) signed and then ratified the Free Trade Agreement (FTA) (Tripathi and Kaur, 2020, p. 538). The FTA provides for the free movement of goods through the territories of the member states.
In 2014, the U.S., members of the European Union, imposed sanctions on Russian energy, defense, and financial companies after the annexation of Crimea, freezing their foreign assets and preventing them from investing abroad. Additional sanctions were later announced, for example, in response to Russian hackers interfering in the internal affairs of other countries (Tripathi and Kaur, 2020, p. 540). In 2021, the United States forced sanctions on Russia’s public debt, prohibiting financial institutions from buying newly issued Russian sovereign bonds.
Critical Evaluation of Challenges
One of the unfavorable factors is the high cost of capital in Russia compared to other countries. Accordingly, an essential step is the creation of acceptable conditions for granting long-term and medium-term loans for industrial enterprises, the reduction of the rate of interbank credit for production investments of commercial banks. Obsolete industrial facilities, dilapidated infrastructure, the depletion of nature, and an established culture of single-use consumption also threaten Russia’s inhabitants’ environment and health (Arapova and Isachenko, 2019, p. 32). Pollution problems have been on the agenda for years and have reached critical levels. The multiformity of the Russian economy has repeatedly caused the technological lagging behind the industrialized countries of the world. Today, in the context of globalization at the international, national, regional, and municipal levels of the economic system, the problems of further industrial development remain relevant. The country’s technology does not keep up with progress, which leads to significant problems with the lack of necessary funds, especially in the transport sector.
An area that requires a particularly balanced approach and coordination of economic and competition policies is the regulation of Russian companies entering global markets. On the one hand, the stimulation of integration processes inside the country accompanied by the growing concentration of capital seems to be a reasonable policy against the background of liberalization of foreign trade relations. On the other hand, the formation of integrated structures increases the economic concentration in Russia’s domestic markets, which increases the risk of abuse of monopoly power by rising national leaders. The Russian Federation also does not practice state support measures for enterprises that suffer from growing imports of similar products (Mostafa and Mahmood, 2018, p. 165). Consequently, almost all measures to protect domestic producers from import competition are concentrated at the country’s customs border in the form of tax rates, quotas, licensing, certification, and special protective measures. Indeed, the main instrument of such protection is often the customs tariff, the most inflexible and clumsy tool of import policy.
Furthermore, one of the features of Russia’s current stage of transformation is the growing inequality of regions in terms of socio-economic development. During the implementation of economic reforms, there has been a significant increase in the inequality of regions by such fundamental indicators as the average per capita gross regional product, the income level of the population, the unemployment rate. The difference in per capita GRP between the poorest and richest regions reaches 25-fold (Mostafa and Mahmood, 2018, p. 168). Growing regional inequality and its persistence can cause serious social tension, including the growth of spontaneous processes in the sphere of labor migration, employment, and income distribution. Another important problem is sanctions, which have almost interrupted profits and loans into the country. Due to the difficult political situation, there are significant economic problems, and Russia loses approximately 2.5-3% of GDP every year (Arapova and Isachenko, 2019, p. 34). At least one of the state banks is under sanctions, new investments in almost all energy projects are stopped, and the oil industry’s supply of goods, services, and technologies is prohibited.
Summary and Recommendations
A key industry attracting various investment opportunities in Russia is the energy sector. Investors can become part of projects by providing logistics support to prospecting equipment. Similarly, interesting is the mining sector, with an estimated production of over 40 million carats, so the industry requires investors to provide experts to support the results. Risks associated with investing in Russia include a lack of regulation. Russia does not have any guarantees to protect investors, especially Great Britain or a free-market-oriented economy; it still faces higher levels of volatility and risk. High-level corruption is common, especially in the judiciary and public procurement.
The strategy for entering the Russian market is to use the resources of the Commercial Service of Great Britain. Thus, it will be cheaper, faster in the long term to enter the market. The service works with economic specialists from the Ministry of Foreign Affairs and the Ministry of Agriculture to help companies quickly find reliable partners and expand their existing business in Russia.
Arapova, E. and Isachenko, T. (2019). Russian trade policy: Main trends and impact on bilateral trade flows. International Journal of Economic Policy in Emerging Economies, 12(1), pp. 26-48.
Dutta, S. J. (2020). Sovereign debt management and the transformation from Keynesian to neoliberal monetary governance in Britain. New political economy, 25(4), pp. 675-690.
Maggiori, M., Neiman, B. and Schreger, J. (2020) ‘International currencies and capital allocation’, Journal of Political Economy, 128(6), pp. 2019-2066.
Mostafa, G. and Mahmood, M. (2018). Eurasian Economic Union: Evolution, challenges and possible future directions. Journal of Eurasian studies, 9(2), pp. 163-172.
Oprea, O. and Stoica, O. (2018) ‘Capital markets integration and economic growth’, Montenegrin Journal of Economics, 14(3), pp. 23-35. Web.
Pilbeam, K. (2018) Finance & financial markets. London: Macmillan International Higher Education.
Tripathi, V. and Kaur, A. (2020) ‘Socially responsible investing: performance evaluation of BRICS nation’, Journal of Advances in Management Research, 17(4), pp. 525-547.
Zogning, F. (2017). Comparing financial systems around the world: Capital markets, legal systems, and governance regimes. Economics, Management, and Financial Markets, 12(4), pp. 43-58.