Regulations has important implications for economic growth and for valuation of companies. Understand the implications of regulations on financial markets the cost benefit analysis of regulation, regulatory, interdependence, and implications for valuation. Regulations are often required when market cannot provide efficient solutions for all problems. Regulations are needed in the presence of informational frictions, externalities, weak competition, and social objectives.
- Informational frictions: Informational frictions occur when information is not equally available or distributed. A situation where some market participants have access to information unavailable to others is called information asymmetry. Regulations are put in place in an attempt to ensure that no participant is treated unfairly or is at a disadvantage
- Externalities: Externalities are cost or benefits that affect a party that did not choose to incur that cost benefit. For example , a polluter may not bear the full cost of their actions.
Weak competition can lead to fewer choices higher prices and lack of innovation. Antitrust regulations seek to mitigate this problem. Social objectives are achieved via provision of public goods(e.g. roads and police protections). A public good is a resources that can be enjoyed by a person without making it unavailable to others. Since people share in the consumption of public goods but don’t necessarily bear a cost that is proportionate to consumption, regulations are necessary to ensure an optimal level of production of such public goods. Regulatory obligations imposed on firms can also serve social objectives.