The key role of an economic system is to ensure efficient allocation. Economic systems are designed to collect savings in an economy and allocate the available resources efficiently to those who either seek funds for current consumption in excess of what their resources would permit or to invest in productive assets.

The key role of an economic system is to ensure efficient allocation. The larger the flow of resources and the more efficient their allocation, the greater the chance that the requirements of all economic agents can be satisfied, and consequently the greater the odds that the output of the economy as a whole will be maximized.

The success of an economy is gauged by the extent of wealth creation. Economists and statisticians use several methods to track economic growth. Some economists posit that total spending is a consequence of productive output.

A successful economy is one that makes and implements judicious economic decisions from the standpoints of both production and distribution. In an efficient economy, resources will be allocated to those economic agents who are in a position to derive the optimal value of output by employing the resources allocated to them.

Economic systems may be classified as either command economies or free-market economies. These are the two extreme ends of the economic spectrum. Most modern economies tend to display characteristics of both kinds of systems, and they differ only with respect to the level of government control.

Like that of the former Soviet Union, in a command economy, all production and allocation decisions are made by a central planning authority. The planning authority is expected to estimate the resource requirements of various economic agents and then rank them in order of priority in relevance to social needs.

In a market economy, economic agents are expected to make the most profitable use of the resources at their disposal. Economic agents who generate surpluses of income in excess of expenditures will be able to attract more and better resources.

Profit is defined as the revenues from sales minus the costs of production of the goods sold. Profit is a function of the prices of the inputs or the factors of production—such as land, labor, and capital—and the prices of the output.

A project is considered to be worth the investment only if its expected rate of return is greater than the cost of the capital being invested. The threshold return, or the return above which the venture will be deemed profitable, is the cost of capital for the decision-maker.

An economic agent is an actor and more specifically a decision-maker in a model of some aspect of the economy. Economic agents are usually divided into three categories or sectors. They are as follows:

– Government
– Business
– Household

Economic agents influence the economy at large and capital markets specifically. The government sector consists of the following:

– Central or federal government.
– State or provincial governments.
– Local governments or municipalities.

A proprietorship, also known as a sole proprietorship, is a business owned by a single person and is the easiest way to start a business. An owner may do business in his or her own name or using a trade name. The owner is fully responsible for all debts and obligations of the business.

Usually, sources of funds for a sole proprietorship include the owner’s personal investment and a loan from a commercial bank. Unlike a corporation, such businesses face relative difficulties in raising additional capital if and when they choose to expand the scope of their operations.

There are two categories of partnerships in many countries: general partnerships and limited partnerships. In a general partnership, the partners have unlimited liability and a partner is personally responsible not only for her own acts but also for the actions of her other partners as well as employees. In a limited partnership, there are two categories of partners, namely general partners and limited partners. The general partners are usually a corporation and have management control. They are characterized by unlimited liability.

A corporation or a limited company is a legal entity that is distinct and separate from its owners, who are referred to as shareholders or stockholders. A corporation may and usually will have multiple owners as well as a number of employees on its payroll.

Depending on the relationship between the income earned and the expenditure incurred, an economic unit may be classified into one of the following three categories:

– A balanced budget unit.
– A surplus budget unit.
– A deficit budget unit.

The record of all economic transactions between a country and the rest of the world (ROW) is known as its balance of payments (BOP). It is a record of a country’s trade in goods, services, and financial assets with the rest of the world. In other words, it is a record of all economic transactions between a country and the outside world.

The BOP is typically broken into three major categories of accounts, each of which is further subdivided into various components. The major categories are as follows:

– The current account.
– The capital account.
– The reserve account.

The current account includes imports and exports of goods and services, as well as earnings on investments. A current account that shows a deficit indicates that the country’s liabilities have increased; if it shows a surplus, it means that a country’s assets held abroad have increased.

A reserve asset is one that is acceptable as a means of payment in international transactions and that is held by and exchanged between the monetary authorities of various countries. It consists of monetary gold, assets denominated in foreign currencies, special drawing rights (SDRs), and reserve positions at the International Monetary Fund (IMF).

A financial asset is a claim against the income or wealth of a business firm, a household, or a government agency. It is represented usually by a certificate, a receipt, a computer record file, or another legal document, and is usually created by or is related to the lending of money.

A debt instrument is a financial claim issued by a borrower to a lender of funds. A debt instrument is a tool an entity can utilize to raise capital. It is a documented, binding obligation that provides funds to an entity in return for a promise from the entity to repay a lender or investor in accordance with terms of a contract.

An intermediary who arranges trades for his clients by helping them to locate suitable counterparties is referred to as a broker. Brokers do not finance the transaction, that is, they do not carry an inventory of the assets being sought. They are merely facilitators of a trade who receive a processing fee for services rendered.

The reason we require market intermediaries such as brokers and dealers is that when an investor seeks to buy or sell assets in the secondary market, she has to locate a suitable counterparty. A counterparty not only should be available but also there should be compatibility in terms of price expectations of the two parties, and the quantity that each one is seeking to transact.

There are two broad categories of swaps: interest-rate swaps and currency swaps. Payments in interest-rate swap (IRS) are denominated in the same currency, while payments in currency swaps are denominated in two different currencies.

The difference between the bid and the ask is called the bid-ask spread or simply the spread. Purchase at the bid followed by a subsequent sale at the ask will result in a profit equal to the spread.

A regular broker, also referred to as a full-service broker, will sit one-on-one with his client seeking to ascertain his investment objectives in order to provide suitable recommendations. He will also provide extensive research reports to facilitate decision making.

An investor with a long position will gain if the price subsequently rises and will lose if it subsequently falls. A rise in price will constitute a capital gain at the time of sale, whereas a price decline is termed a capital loss. The principle behind the assumption of such a position is buy low and sell high.

Investment bankers help the issue process in two ways. They are as follows:

– Help the borrower comply with various legal and procedural requirements that are usually mandatory for such issues.
– Provide insurance to the issuer by underwriting the issue. This means that they stand ready to buy that portion of the issue that remains unsubscribed if the issue were to be undersubscribed.

Devolvement risk is the risk that the bank may have to buy the unsold securities in the event of undersubscription. Such an eventuality will inevitably lead to a loss for the bank, in the sense that the shares so acquired will have to be subsequently offloaded in the market at a price that is lower than the issue price.