Financial markets have had two main characteristics since the start of the coronavirus crisis: they have dropped sharply and they have been very volatile.
Given a context characterised by a high level of uncertainty and inability to make economic forecasts with a reasonable degree of assurance, this is not a surprise: the purpose of financial markets is to convert economic information and expectations into asset prices and, when information is blurred and expectations difficult – if not impossible – to make, financial markets become disoriented.
Two arguments come out strongly for closing financial markets. The first one is linked to the point mentioned above: if financiers are unable to make reasonable economic expectations because of a health crisis that has brought the economy to a standstill, and if they are therefore unable to estimate the value of assets with a reasonable level of confidence, what is the point of keeping markets open? The second one is to prevent speculative behaviours that are perceived as detrimental to those most affected by the crisis.
The answer to this question must, in our view, proceed from a compared analysis of the cost of closing financial markets with the cost of not closing them.
- First, there should be no illusion that there can be such a thing as an actual closing of financial markets: if organised (and supervised) markets are closed, the trading of financial instruments will continue unabated either over-the-counter, on unregulated trading venues, or on regulated markets of jurisdictions that have not taken similar measures. This could therefore lead to a deteriorated situation where markets have less transparency and are less supervised than in the present situation.
- Second, shutting financial markets would be a very delicate exercise from a communications standpoint: it could be either done without prior warning, but this would create a high number of extremely delicate situations to manage, and if it were announced ahead of implementation it could trigger a wave of panic selling from markets participants wanting to get out before markets are closed.
- Third, shutting financial markets would imply to stop the possibility for investors to redeem funds and therefore get their money back, which would create many very difficult, and possibly unmanageable, situations for investors, whether retail or professional, particularly in a time where access to cash is vital for many.
- Fourth, the valuation of listed financial assets would become impossible in the absence of market prices. This, in turn, would create an extremely difficult situation for supervisors, auditors, institutional investors, pension funds, central banks, etc. Like it or not, the entire financial system is built around the notion of market price and the system is not ready to move overnight – i.e. in the middle of a crisis – away from this way of functioning.
- Fifth, the vast majority of financial markets participants, and by definition investors, are losing money in the current situation, not benefiting from it. Only speculative net short sellers can benefit from such market falls and this phenomenon can be addressed by the prohibition of short selling, something that a number of European financial supervisors, but unfortunately not all, have decided to do.
- Lastly, it has to be noted that if raising capital on equity markets is presently impossible, bond markets have enabled in March investment grade corporates to raise $244 bn. globally, out of which $28 bn. in Europe, and over $400 bn. globally if banks’ issuance of bonds is included. At a time when access to liquidity is essential for the very survival of many economic actors, this ability of bond markets to fund issuers is not to be neglected and pleads against a closure of financial markets.
All in all, assessing the situation must start with the recognition that the entire financial system is currently organised around financial markets and that closing them would have endless repercussions on the entire system. Overall, and despite all the imperfections of financial markets and their currently chaotic behaviour, the costs of closing financial markets in the middle of a crisis would, in our view, be higher than the cost of leaving them open. This does not preclude the fact that we should think harder about reforming markets more in depth once the current crisis is over in order to make them serve better the economy and society.
Thierry Philipponnat
