Paper Economy

A paper economy describes a financial system or economy that operates on paper-based transactions such as checks, bonds, and credits (among other things). When products and services are traded for paper, the economy is established. Hence, the purpose of this economy is to facilitate the efficient allocation of capital, provide liquidity, and enable risk management within an economy.

There is no exchange of tangible goods, but the economy's components help mobilize funds. In addition to that, they also help in technological advancements. Moreover, in a paper economy, the financial sector and financial markets dominate in driving economic growth and determining the economy's overall health. Thus, it helps in capital formation, investment, and wealth creation.

• A paper economy or financial economy describes an economic system or economy that operates on paper-based transactions such as checks, bonds, and credits (among other things).
• There is no exchange of tangible goods, but the economy's components help mobilize funds.
• Therefore, this financial economy focuses on actively trading and purchasing financial products such as stocks, bonds, and mutual funds.
• It has a cycle and has four stages: the trough, the boom or expansion, the peak, and the downturn or recession. This cycle may parallel the real economy and impose positive or negative pressure on it.

Paper economy refers to the part of the economy composed of immaterial or financial variables. Furthermore, in a paper economy, the financial sector, including banks, investment firms, and stock exchanges, is prominent in driving economic growth and influencing overall economic conditions. Besides, it has a cycle and has four stages: the trough, the boom or expansion, the peak, and the downturn or recession. This cycle may parallel the real economy and impose positive or negative pressure on it.

Thus, financial instruments such as stocks, bonds, derivatives, and other securities become the focus of investment and speculation. However, it is worth noting that this economy is not inherently harmful or detrimental.

Therefore, policymakers and regulators often aim to balance the paper and real economies to ensure sustainable and inclusive economic growth.

Besides, the key characteristics and aspects of the paper economy are:

• Financialization: This economy is characterized by the increasing prominence of financial activities within the overall economy. Financial markets, institutions, and transactions have become more significant than traditional industries and sectors.
• Speculation and Trading: Trading and speculation in financial markets become significant drivers of economic activity. Furthermore, traders, investors, and institutions buy and sell financial assets to profit from price movements and market fluctuations.
• Financial Instruments: Financial instruments, including stocks, bonds, options, futures, and complex derivatives, are created and traded within the paper economy. Thus, these instruments represent ownership stakes, debt obligations, or rights to future cash flows.
• Market Volatility: The paper economy can be volatile and unstable. Price fluctuations, speculative bubbles, and market crashes are more prevalent due to the nature of financial markets and the behavior of market participants.

Check out these examples for a better idea:

Example #1

Let's take the example of an investor named Dan. He is a big stock market fan and likes investing in green bonds. He plans to buy a bond worth $5000 from Baker Hughes Company. For that, all he has to do is transfer $5000 from his bank account to the company’s bank account, and the ownership of the bond will be in his name. Therefore, Dan receives no physical or material representation of the bond; everything happens on paper and is documented.

Example #2

One of the ways an investor can make money is by trading in the derivatives market. The purchase of derivatives of stocks is an alternative to buying stocks directly. Options are a good choice. They are financial contracts known as options and are a derivative whose value depends on the importance of an underlying asset or instrument. A stock, currency, index, commodity, or any other security could be the underlying instrument. Therefore, they have been widespread, and the world saw record transactions of $9.9 billion in 2021.

Advantages

• They mobilize funds and help in capital accumulation.
• Helps companies raise capital.
• Therefore, they help with money flow in the economy.
• This form of economy is more convenient and efficient.

Disadvantages

• The paper economy may cause inflation as it induces quasi-real transactions.
• There is no real transfer of goods in these transactions, but money is exchanged.
• Liquidity may be an issue depending on what assets the investments are tied to.
• Certain parts of the financial economy may lack clarity or be subject to minimal regulations. In such cases, the risks associated with them increase.

Differences between the paper economy and the digital economy are given as follows:

This article has been a guide to what is Paper Economy. We explain it in detail including its examples, advantages, disadvantages, and comparison digital economy. You may also find some useful articles here -

• Economic Forecasting
• Circular Economy
• Capitalist Economy