Background
Investment banks play a pivotal role in the financial system by focusing on complex financial activities such as underwriting, acting as intermediaries between an issuer of securities and the public, facilitating mergers and acquisitions, and serving the investment needs of large clients like corporations, institutional investors, and governments.
Historical Context
The concept of investment banking can be traced back to ancient times, but it was in the 19th-century America where it became more formally distinguished from commercial banking. Early examples include institutions like J.P. Morgan & Co, which played significant roles in financing industrial enterprises and railroads.
Definitions and Concepts
An investment bank is a financial institution that specializes in services related to the creation of capital for other companies, governments, and other entities. They do not take retail deposits but provide high-value services such as underwriting, facilitating mergers and acquisitions, and issuing stocks and bonds.
Major Analytical Frameworks
Classical Economics
Classical economics traditionally does not elaborate on investment banking separately; it focuses on broad financial markets, theories of interest rates, and capital.
Neoclassical Economics
Neoclassical economists analyze investment banking in the context of efficient markets and how it contributes to capital allocation, risk management, and economic savings to investments transformation.
Keynesian Economics
Investment banks are essential in the Keynesian framework as they help stimulate economic activity by enabling business investments and government spending via bond issues and other financial mechanisms.
Marxian Economics
Marxian economics critically views investment banks within the capitalist system, highlighting their roles in perpetuating capital accumulation and financial crises.
Institutional Economics
From an institutional perspective, investment banks are scrutinized for their risk management practices and regulatory environments that govern their operations.
Behavioral Economics
Behavioral economics examines investment banking practices through the lens of psychological factors influencing market behaviors, risk assessments, and decision-making processes.
Post-Keynesian Economics
This framework emphasizes the intricate affecting relationships between real economic activities and financial markets, including the systemic risks introduced by investment bank operations.
Austrian Economics
Austrian economists focus on the role of investment banks in the context of credit cycles and ethical considerations surrounding their business models.
Development Economics
In developing economies, investment banks are crucial for infrastructure development, providing vital financial support for large-scale projects and economic advancements.
Monetarism
Monetarists view the activities of investment banks primarily through the lens of their impact on money supply and financial stability.
Comparative Analysis
Investment banks differ significantly from commercial banks, with specific differences primarily related to retail services, asset management, and regulatory environments. Unlike commercial banks, investment banks do not accept deposits from the general public but ether raise funds through equity and debt.
Case Studies
Examples of significant investment banking activities include the 2008 financial crisis, where the roles and risk practices of large investment banks like Lehman Brothers became critically observable. Another example includes Goldman Sachs’ involvement in both significant Initial Public Offerings (IPOs) and mergers or acquisitions.
Suggested Books for Further Studies
- “Barbarians at the Gate” by Bryan Burrough and John Helyar
- “Liar’s Poker” by Michael Lewis
- “Too Big to Fail” by Andrew Ross Sorkin
Related Terms with Definitions
- Underwriting: The process through which an investment bank guarantees the sale of newly issued securities.
- Mergers and Acquisitions (M&A): Services related to advisory and facilitation in the consolidation and acquisition of companies.
- Equity Financing: Raising capital through the sale of company shares.
- Debt Financing: The method of raising funds through borrowing.
- Capital Markets: Markets for buying and selling equity and debt instruments.
