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Corporate Risk Management resources

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PA RT I The Products Wmists. In the chapter that begins this book, “Financial Innovation:a time- honored practice, even among econo- isall-Street bashing Achievements and Prospects,” Merton Miller, Nobel laureate and widely re- garded as “the father of modern fi nance,” traces the pop u lar skepticism about Wall Street and fi 18th- century economic doctrine nancial innovation to an known as “Physiocracy.” According to this theory, the ultimate source of na- tional wealth lies in the production of physical commodities. All other forms of commercial activity are considered nonproductive, if not parasitic. “Mod- ern- day Physiocrats,” as Miller wrote, “automatically and enthusiastically con- sign to that nonproductive class all the many thousands on Wall Street and LaSalle Street now using the new instruments.” The subject of Miller’s chapter is “the new instruments”—that is, the pro- liferation since the early 1970s of all variety of futures, swaps, and options. It is Miller’s contention—and one of the major recurring themes of this book—that the social benefi nancial innovation far outweigh the costs. ts of fi What are these benefi ts? Perhaps the principal source of gain from the many securities innovations over the past 20 years has been an improvement in the allocation of risk within the fi nancial system—which in turn has enabled the capital markets to do a better job of performing their basic task of channel- ing investor savings into productive corporate investment of all kinds. The for- eign exchange futures market that started in 1972, together with the host of “derivative” products that have risen up since then, have dramatically reduced the cost of transferring risks to those market participants with a comparative advantage in bearing them. “Effi cient risk- sharing,” as Miller put it, “is what much of the futures and options revolution has been all about.” By functioning much like “a gigantic insurance company,” the options, futures, and other deriv- ative markets also effectively raise the price investors pay for corporate securi- ties, thus adding to corporate investment and general economic growth.

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