What is an Instrument?

An instrument is a means by which something of value is transferred, held, or accomplished. In the field of finance, an instrument is a tradable asset, or negotiable item, such as a security, commodity, derivative, or index, or any item that underlies a derivative.

In separate contexts, an instrument can refer to an economic variable that can be controlled or altered by government policymakers to effect a change in other economic indicators. It can also refer to a legal document such as a contract, will, or deed.

Key Takeaways

  • An instrument is a means by which something of value is transferred, held, or accomplished.
  • In the field of finance, an instrument is a tradable asset, or negotiable item, such as a security, commodity, derivative, or index, or any item that underlies a derivative.
  • An instrument can also refer to an economic variable that can be controlled or altered by government policymakers, or a legal document such as a contract, will, or deed.

Understanding Instruments

Basically, any asset purchased by an investor can be considered a financial instrument. Antique furniture, wheat, and corporate bonds are all equally considered investing instruments in that they can all be bought and sold as things that hold and produce value. Instruments can be debt or equity, representing a share of liability (a future repayment of debt) or ownership. An instrument, in essence, is a type of contract or medium that serves as a vehicle for an exchange of some value between parties.

In terms of instruments as economic variables, policymakers and central banks commonly adjust economic instruments, such as interest rates, to achieve and maintain desired levels of other economic indicators, such as inflation or unemployment rates. Economic instruments may also include such assets as performance bonds or pollution taxes, all designed to bring about some change that is sought as a part of policy. For instance, an economic instrument like a tax might be instituted to help reflect some form of cost, which might not be monetary, that is incurred in the procurement or production of some goods or services.

Accessing and using natural resources can have broader effects on the environment and lead to the depletion of that resource. Fees on the production of such resources might be instituted to reflect the impact of exploiting these resources.

From a legal perspective, some examples of legal instruments include insurance contracts, debt covenants, purchase agreements, or mortgages. These documents lay out the parties involved, triggering events, and terms of the contract, communicating the intended purpose and scope. With legal instruments, there will be a statement of any contractual relationship that is established between the parties involved, such as the terms of a mortgage. These may include rights given to certain parties that are secured by law. A legal instrument presents in a formal fashion that there is an obligation, act, or other duty that is enforceable.